INSURANCE ANNUITIES
Simply put, an insurance company variable annuity is a portfolio of mutual fund like investments marketed to investors by insurance companies. But let's make this point very clear, variable annuities are designed for after-tax investing, not pre-tax retirement plan money. In short, retirement plan money, whether ORP/403(b) plans, corporate 401(k) plans, small business KEOGH plans, or the plethora of IRAs, should NEVER be invested in variable annuities. In other words, you don't feed a cow milk to produce milk.
Insurance agents, either through ignorance or greed, never tell investors about the limited use and true value of variable annuities. Here is the answer. The best use for a variable annuity is to provide a tax-deferred alternative to bank accounts, certificates of deposit, and money market accounts. Since all retirement plans inherently provide tax-deferral, the use of a variable annuity for retirement plan money is redundant and inappropriate. In addition, variable annuities should be used primarily by high net worth individuals who are in the highest tax brackets in states with a state income tax.
Annuity Awareness
The first glaring weakness of a variable annuity is the high internal annual expenses, sometimes twice that of the mutual funds companies such as Fidelity or Vanguard. Furthermore, high annual insurance expenses erode the total return performance of any investment. Also, unlike mutual fund marketing, insurance agents oversell variable annuities because annuities generally pay the agent a higher commission than mutual funds. Moreover, annuities do not offer investors "volume" commission discounts for larger money investors. And all thing being equal, higher commissions have an inverse relationship to investment performance. It's a vicious circle that guarantees the insurance company and their sales reps profits at the expense of the annuity investor.
Second, variable annuities impose nasty surrender charges of anywhere from 5% to 10% of every contribution, sometime for as long as 15 years. When the investor gets more sophisticated and wants to move their investment money to to the more cost-effective no-load mutual funds, they are saddled with the tough decision of paying a hefty surrender penalty or leaving their money in a mediocre performing insurance annuity.
Third, and maybe most important, insurance annuity sales representatives don't want to "manage" annuity investments. Insurance agents only get paid when they sale the the next annuity, not by taking care of existing annuity money by providing on-going management. Unlike fee-only investment managers, insurance salespeople make all their sales commission right up front and are only "rewarded" for new sales. In most cases, this is a major conflict of interest for the hapless investor. To be fair, however, all commission-compensated investment salespeople, including brokerage house representatives, have the same conflict of interest. .
In the end, all things considered, insurance annuities are generally bad for your financial health and should be used sparingly. Annuities should only be used in specific situations. Unfortunately, the insurance industry, in regards to annuities, uses deceptive marketing hyperbole to sell products that are not suitable for many trusting investors.
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