Annuities: Bad in principle or practice?

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sawhorse
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Annuities: Bad in principle or practice?

Post by sawhorse »

I've read a lot about how you shouldn't buy variable or indexed annuities. Most of these articles cite the high fees and not the concepts themselves.

Are variable and indexed annuities inherently unfavorable to individual investors, or is it the standard industry practices that make them bad? The latter suggests that changes in implementation could make them good choices for individual investors.
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Re: Annuities: Bad in principle or practice?

Post by The Wizard »

SIP of big commissions up front make them undesirable in most cases.
I only buy immediate annuities that start monthly payouts right after I buy them.
I do have some variable immediate annuities where I participate in the performance of the underlying investments...
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Re: Annuities: Bad in principle or practice?

Post by DaufuskieNate »

In principle, annuities solve the rather significant problem of mortality risk. The only way to really address this on your own is to use conservative spending assumptions. In practice, high fees and complex variations on the theme can make annuities unattractive. There is also the issue of concentration of credit risk. If implementation can solve high fees, complexity and credit risk, annuities could compete strongly for retiree assets.
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Re: Annuities: Bad in principle or practice?

Post by alex_686 »

DaufuskieNate wrote:In principle, annuities solve the rather significant problem of mortality risk. The only way to really address this on your own is to use conservative spending assumptions. In practice, high fees and complex variations on the theme can make annuities unattractive. There is also the issue of concentration of credit risk. If implementation can solve high fees, complexity and credit risk, annuities could compete strongly for retiree assets.
+1, except for the credit risk. There is credit risk, but I think it is fairly minor. These products are heavily regulated and overseen by your states insurance regulator. The actuarial assumptions are conservative. The funding is in a separate account, stuff full of highly rated bonds. I can't think of the last time when a annuity went bust.
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Re: Annuities: Bad in principle or practice?

Post by Professor Emeritus »

It is very easy to compare SPIAs which means the SPIA market functions "efficiently". It is also somewhat less subject to adverse selection.
So they are most equivalent to term insurance. a clean product that can be compared.


all variable annuities (and all whole life policies) are ’" a kind of a giddy harumfrodite" that mixes together, usually badly, investment and insurance objectives. They are obscure and carry high fees and commissions for the sellers.
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Re: Annuities: Bad in principle or practice?

Post by itstoomuch »

IMO: Both.
examples: Everything is relative.
SPIA- Cheap, relatively-unless you die too soon and thereby lose whatever that wasn't paid out.
Trading accounts- Cheap if you have winners. Expensive if you have losers.
Social Security-Cheap if you are a low wage earner. Expensive if you are high income.
GLIB with stepup annuities- Cheap in bear market. Expensive in bull markets.
IRA/401k/403b/Roths-Cheap if you know what you are doing. Expensive if you don't know. These are Defined Contribution RETIREMENT plans which will be "annuitized" at some point in your life.

disclaimer:
We have GLIB deferred VA and GLIB Fixed Index deferred annuities. They are relatively expensive when compared to SP500. BUT we won't bear the capital income risk when the SP500 falls, as it did in 2007-2009.
We also have trading accounts which I can normally beat the SP500/index. But I have more anxieties

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Re: Annuities: Bad in principle or practice?

Post by sawhorse »

Professor Emeritus wrote:all variable annuities (and all whole life policies) are ’" a kind of a giddy harumfrodite" that mixes together, usually badly, investment and insurance objectives. They are obscure and carry high fees and commissions for the sellers.
So is it the obscurity and high fees that make them bad, or are they inherently unfavorable to individual investors? If you removed the obscurity, high fees, commissions, etc. would they still be bad?

By the way, I'm focusing on variable and indexed annuities rather than fixed annuities though I welcome comments on fixed annuities too.
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Re: Annuities: Bad in principle or practice?

Post by 555 »

Professor Emeritus wrote:It is very easy to compare SPIAs which means the SPIA market functions "efficiently". It is also somewhat less subject to adverse selection.
How do you know they are "less subject to adverse selection". (Just to check my understanding is right: "adverse selection" as applied SPIAs would refer to longer lived individuals being more likely to buy them, so that consequently the insurance company won't/can't offer as good a deal as they would/could with the general population. Is that what you are referring to?) I had thought this "adverse selection" might be a problem for SPIAs.
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Re: Annuities: Bad in principle or practice?

Post by pkcrafter »

So is it the obscurity and high fees that make them bad, or are they inherently unfavorable to individual investors? If you removed the obscurity, high fees, commissions, etc. would they still be bad?
No.

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Re: Annuities: Bad in principle or practice?

Post by adamthesmythe »

> If you removed the obscurity, high fees, commissions, etc. would they still be bad?

I'll be cynical here. Variable annuities are so hard to understand they need a very persuasive sales pitch, and even then many propects may not be persuaded. To compensate the salesman for all this work you have to offer a high commission. High commission makes them unfavorable for the purchaser.
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Re: Annuities: Bad in principle or practice?

Post by nisiprius »

When I was exploring annuities, for the longest time I couldn't get anyone to explain to me how the annuitization part of variable annuities actually worked. I think the insurance agent I was talking to may not have known. The "annuity" aspect--the pretense that they are a savings and investment program that will eventually be used to purchase, or converted to, an annuity, is apparently mostly a fig leaf to qualify for a (rather feeble) tax break. They are thought of as investments and rarely annuitized.

TIAA-CREF variable annuities, which have low costs and usually are annuitized, seem OK in practice. All of TIAA's presentations are based on the premise that the goal is to provide lifetime income, and that the annuity accounts will in fact be used for that eventual purpose.
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Re: Annuities: Bad in principle or practice?

Post by gwrvmd »

Nobody has addressed age when answering. There is no place for annuities before 65, they are insurance products not investment company products. Some types of annuities have a place after 65, they are a method of buying a pension.......Gordon
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Re: Annuities: Bad in principle or practice?

Post by sometimesinvestor »

At current interest immediate fixed annuities are primarily insurance against living to long. For example I read that at age 70 you can get $2000 permonth (with nothing to your heirs if you die for $314,000. Clearly that has zero value unless you live 16+ years which is slightly more than median life expectancy.If you lived till 90 or more it might workout Therefore the most important info is how long your parents lived and the state of your health .As for variable annuities they seem most appropriate if you have maxed out IRA and 401k contributions and don't want to invest in a tax efficient taxable mutual fund or ETF. There major pro is that there is usually a rider (somewhat expensive ) that means you won't lose money if you hold it fora sufficient time (the death benefit is often something like the highest value of your investment . It would have worked out ok if you purchased it in august of 1987 and not so well y if you invested in march 2009
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Re: Annuities: Bad in principle or practice?

Post by chessmannextmove »

sometimesinvestor wrote:At current interest immediate fixed annuities are primarily insurance against living to long. For example I read that at age 70 you can get $2000 permonth (with nothing to your heirs if you die for $314,000. Clearly that has zero value unless you live 16+ years which is slightly more than median life expectancy.If you lived till 90 or more it might workout Therefore the most important info is how long your parents lived and the state of your health .As for variable annuities they seem most appropriate if you have maxed out IRA and 401k contributions and don't want to invest in a tax efficient taxable mutual fund or ETF. There major pro is that there is usually a rider (somewhat expensive ) that means you won't lose money if you hold it fora sufficient time (the death benefit is often something like the highest value of your investment . It would have worked out ok if you purchased it in august of 1987 and not so well y if you invested in march 2009
"clearly" <- that's the entire argument.
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Re: Annuities: Bad in principle or practice?

Post by ResearchMed »

sometimesinvestor wrote:At current interest immediate fixed annuities are primarily insurance against living to long. For example I read that at age 70 you can get $2000 permonth (with nothing to your heirs if you die for $314,000. Clearly that has zero value unless you live 16+ years which is slightly more than median life expectancy.If you lived till 90 or more it might workout Therefore the most important info is how long your parents lived and the state of your health .As for variable annuities they seem most appropriate if you have maxed out IRA and 401k contributions and don't want to invest in a tax efficient taxable mutual fund or ETF. There major pro is that there is usually a rider (somewhat expensive ) that means you won't lose money if you hold it fora sufficient time (the death benefit is often something like the highest value of your investment . It would have worked out ok if you purchased it in august of 1987 and not so well y if you invested in march 2009
Your comment that there is "zero value unless you live 16+ years"...
...Is this like one's homeowner's insurance has zero value if the house doesn't burn down (or no other major claims, etc.)?

Or... term life insurance has zero value if one doesn't die during the term?

I don't think so.
That's not what "insurance" is about.

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Re: Annuities: Bad in principle or practice?

Post by 555 »

Could you please explain your reasoning and calculation a bit more?
sometimesinvestor wrote:At current interest immediate fixed annuities are primarily insurance against living to long. For example I read that at age 70 you can get $2000 permonth (with nothing to your heirs if you die for $314,000. Clearly that has zero value unless you live 16+ years which is slightly more than median life expectancy.
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Re: Annuities: Bad in principle or practice?

Post by grabiner »

sawhorse wrote:I've read a lot about how you shouldn't buy variable or indexed annuities. Most of these articles cite the high fees and not the concepts themselves.

Are variable and indexed annuities inherently unfavorable to individual investors, or is it the standard industry practices that make them bad? The latter suggests that changes in implementation could make them good choices for individual investors.
Indexed annuities are bad in principle, because they depend on a gimmick to work. Typically, they promise "the return of the S&P 500 index" (subject to certain limitations), but that is 2% less than the return of an S&P index fund, because the published index excludes dividends.

Variable annuities can be OK in principle, and there are a few at low enough cost that they make sense. One example is an all-taxable investor who wants to invest in REITs; holding Vanguard REIT Index in a variable annuity may save enough from the tax deferral to cover the extra expenses of the annuity, particularly if the investor retires in a lower tax bracket.

Fixed annuities make a lot of sense, not for the returns, but for longevity insurance. If you have a 20-year life expectancy, you don't want to deplete your portfolio in 20 years. But if you choose a withdrawal rate which would deplete your portfolio in 24 years (allowing for the expense of the annuity provider), a fixed annuity can guarantee that withdrawal rate even if you happen to live for 40 years.
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Re: Annuities: Bad in principle or practice?

Post by itstoomuch »

I am talking to wife.
She wants to catch Spring Chinook Salmon but does not want to hire a guide because the guide cannot guarantee the catch.
So what is the alternative?

She wants to catch a Spring Chinook Salmon and wants to DIY but has no boat, equipment, or knowledge to where to catch the fish.
So what is the alternative?

An acquaintance/my father's friend, is a pretty good fisherman for Fall Chinook. But for Spring Chinook, he hires a guide.
So what is the alternative?

I'd better get back to wife.
:annoyed
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Re: Annuities: Bad in principle or practice?

Post by dhodson »

Both

Even if you found a "good one", you are trading long term capital gains to income, no ability to tax loss harvest, increased costs even if not terrible, lack of liquidity, and no step up basis at death.
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Re: Annuities: Bad in principle or practice?

Post by sawhorse »

This is from a private message I received. I hope it's okay to post this because I'm not identifying the sender. I am not familiar with annuities to distinguish between all the flavors so I'll let the quote speak for itself.
See, deferred and sheltered are not the same. When you say annuity with no modifier, everyone jumps to their own favorite version. Which version do you think people are talking about in this thread? Which version do you think they are talking about in the CREF Stock VA thread? They aren't the same as far as I can tell.
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Re: Annuities: Bad in principle or practice?

Post by dhodson »

While true, u mentioned VAs and index ones. What I said remains. Additional riders are mentioned by some but they are costly for what they offer.
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Re: Annuities: Bad in principle or practice?

Post by itstoomuch »

My mother had a private pension that she was living on for 25+ years plus SS+ a long CD-IRA.

My father has a Public Employee Retirement Pension for 30+ years plus SS + long CD-IRA.

Which you chose? my father's or my mother's?
Why?
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Re: Annuities: Bad in principle or practice?

Post by Professor Emeritus »

555 wrote:
Professor Emeritus wrote:It is very easy to compare SPIAs which means the SPIA market functions "efficiently". It is also somewhat less subject to adverse selection.
How do you know they are "less subject to adverse selection". (Just to check my understanding is right: "adverse selection" as applied SPIAs would refer to longer lived individuals being more likely to buy them, so that consequently the insurance company won't/can't offer as good a deal as they would/could with the general population. Is that what you are referring to?) I had thought this "adverse selection" might be a problem for SPIAs.
1)It is MUCH simpler to know you have a shorter life expectancy than average than a longer one.
2) suicide and similar enhanced "moral hazard" risks have few if any corresponding risks on the long side.
3) the prediction algorithm assumes that those with KNOWN shorter life expectancy don't buy the product
4) it is much easier to monitor over time your prediction algorithm.

Remember the DB pension industry has been doing these algorithms forever.
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Re: Annuities: Bad in principle or practice?

Post by Professor Emeritus »

dhodson wrote:Both

Even if you found a "good one", you are trading long term capital gains to income, no ability to tax loss harvest, increased costs even if not terrible, lack of liquidity, and no step up basis at death.
apples and oranges. Annuities provide for consumption over a lifetime. your examples preclude spending.
Certainly if you don't want to spend money , annuities are a bad idea
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Re: Annuities: Bad in principle or practice?

Post by Professor Emeritus »

gwrvmd wrote:Nobody has addressed age when answering. There is no place for annuities before 65, they are insurance products not investment company products. Some types of annuities have a place after 65, they are a method of buying a pension.......Gordon
Some people do buy pensions before 65. But I agree they are pension products.
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Re: Annuities: Bad in principle or practice?

Post by Professor Emeritus »

sawhorse wrote:
Professor Emeritus wrote:all variable annuities (and all whole life policies) are ’" a kind of a giddy harumfrodite" that mixes together, usually badly, investment and insurance objectives. They are obscure and carry high fees and commissions for the sellers.
So is it the obscurity and high fees that make them bad, or are they inherently unfavorable to individual investors? If you removed the obscurity, high fees, commissions, etc. would they still be bad?

By the way, I'm focusing on variable and indexed annuities rather than fixed annuities though I welcome comments on fixed annuities too.
In general all Multi purpose" products are bad for investors since they can't titrate the product to personal needs. Only when a product is meaningfully integrated e.g.cheeseburgers there any clear benefit over buying the products separately. Sometimes there are economies of scale even without integration (COSTCO) but in general in financial products such benefits are nonexistent.

If you are old enough you might remember combination tv/vcrs. Except in rare space limited cases, they were always a bad idea. If one half died, you lost both. and there was no "integration benefit."

Laptop computers do have an integration benefit over separate computers and monitors.

But does anyone use stainless steel Sporks at dinner? (I do have a spork salad set)

Shopping centers are better for most people than a giant department store for much the same reason.
Integrated products are different
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Re: Annuities: Bad in principle or practice?

Post by nisiprius »

Most of the issues with variable annuities become clear if you ask the question this way: consider this strategy:

"Save, then annuitize." Save up in a portfolio of mutual funds up to retirement age, then use the savings to purchase an SPIA (aka fixed, immediate annuity or life income annuity).

How is a variable annuity better than "save, then annuitize?"

The only answer I know is "you get a weak tax break in the variable annuity." It's weak compared to a traditional IRA, Roth IRA, or 401(k) plan because it only gives you nontaxable compounding. The others give you nontaxable compounding plus, either, no taxes on the contributions coming in or no taxes on distributions coming out.

In principle this is not necessarily a bad thing.

So this needs to get traded off against the problems with variable annuities, which are mostly related to product marketing. That is, "bad in practice."

You are restricted to a very limited set of mutual-fund-like investment portfolios and they are usually mediocre. You are subject to numerous complicated layers of fees, poorly disclosed. And worst of all, the product is so complex, obfuscated, and varying in detail from insurer to insurer that there is no hope of the average investor understanding what they are buying. It takes forty pages of fine print on onionskin simply to describe the product. The buyer depends on the insurance agent to explain the product to him. This gives the insurance agent an opportunity to highlight and showcase some unimportant attractive-sounding aspects of the product ("Whenever the stock market does well, you can give yourself a raise!") while minimizing any unattractive features.

You are also restricted in your choice of the insurance company that will eventually manage the annuity when you start to receive payments. In the case of Vanguard, that's "Transamerica Premier Life Insurance Company," formerly "Monumental Life Insurance Company." Is that a great company? An OK company? Is it the one you'd pick if you had a free choice? I don't know, but it is curious that it is not among the six or so insurance companies that Vanguard, via Income Solutions, offers when you simply buy an SPIA through Vanguard!

Here is an example of a "bad in principle" thing. It appears as if there are simply real extra costs involved in doing whatever kind of administration is needed to manage the account in a variable annuity. In the case of Vanguard, the same mutual fund (Total Stock Market Index) that costs me 0.05% per year to hold myself would cost me 0.48% per year to hold within a Vanguard variable annuity.

The tax break (which, again, is only on investment gains, i.e. nontaxable compounding) is probably worth a lot more than the 0.43% in extra expenses but I'd want to see the math on that to be sure. (And I'd want to be sure it was making realistic assumptions about investment returns going forward). If you have a balanced portfolio and are assuming 4% returns going forward, then I guess the extra expenses are only eating 10% of your return each year, while holding it as an ordinary taxable mutual fund would subject you to 15% annual capital gains taxes. <---ADDED See Grabiner's comments below, and another correspondent has pointed out to me that the tax situation is more complicated than I said.

No, I have no idea why the "portfolio operating expenses" are 0.19%--similar to investor shares--and I don't know why they can't just "invest" the portfolio in VTSAX or VTI and get those expenses down to 0.05%.

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Re: Annuities: Bad in principle or practice?

Post by gd »

sawhorse wrote: Are variable and indexed annuities inherently unfavorable to individual investors, or is it the standard industry practices that make them bad? The latter suggests that changes in implementation could make them good choices for individual investors.
For some perspective, I think the same thing about my house except more so. Unscrupulous and manipulative sales practices, outrageous initial fees, high ongoing costs, highly illiquid and constraining, actual value track record for many people nothing like the popular mythology. Yet people keep buying them claiming it's a prudent financial decision. Go figure. It's almost like the answer is different for everyone.
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Re: Annuities: Bad in principle or practice?

Post by dhodson »

Professor Emeritus wrote:
dhodson wrote:Both

Even if you found a "good one", you are trading long term capital gains to income, no ability to tax loss harvest, increased costs even if not terrible, lack of liquidity, and no step up basis at death.
apples and oranges. Annuities provide for consumption over a lifetime. your examples preclude spending.
Certainly if you don't want to spend money , annuities are a bad idea
First off the OP said VAs and EIAs. 2nd few annuitize their deferred annuities regardless of flavor. Finally you can still purchase a SPIA later on. You don't need to purchase either of the annuities the OP mentioned to gain mortality credits or an insurance company income guarantee.
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Re: Annuities: Bad in principle or practice?

Post by Ron »

Professor Emeritus wrote:
gwrvmd wrote:Nobody has addressed age when answering. There is no place for annuities before 65, they are insurance products not investment company products. Some types of annuities have a place after 65, they are a method of buying a pension.......Gordon
Some people do buy pensions before 65. But I agree they are pension products.
Yes, I purchased an SPIA (not part of the OP's question) at age 59, when I retired. I had no company defined benefit (pension), but I did have a cash balance plan with an option of purchasing an annuity (SPIA) through them. I did some investigation my own to purchase an SPIA on my terms (joint/guaranteed period) and used the immediate annuity site, along with quotes from both VG and FIDO.

Eight years in, it's probably one of my better retirement decisions; but that's only viewed in my case and just being a part of my entire retirement income scheme.

- Ron
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Re: Annuities: Bad in principle or practice?

Post by nisiprius »

I forgot to mention another relevant point. Barry Barnitz did an interesting analysis:

Vanguard Variable SPIA: Using Vanguard’s Inflation Indexed Securities Fund for Inflation Protection

The straightforward approach is to buy an inflation-indexed SPIA. Such products exist (although I dread the possibility of consumer confusion between INFLATION-indexed SPIAs, which are Good, and "indexed fixed annuities," which are Evil). However, there seem to be at most two or three companies offering this product.

He asked what would have happened if you had used a variable annuity, based on a TIPS fund or portfolio. You could do that with Vanguard (his illustration) or at TIAA-CREF, and perhaps other places.

My quick reading of his results was that it would not be a good substitute for an inflation-indexed SPIA, but nevertheless interesting.
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Re: Annuities: Bad in principle or practice?

Post by grabiner »

nisiprius wrote:Here is an example of a "bad in principle" thing. It appears as if there are simply real extra costs involved in doing whatever kind of administration is needed to manage the account in a variable annuity. In the case of Vanguard, the same mutual fund (Total Stock Market Index) that costs me 0.05% per year to hold myself would cost me 0.48% per year to hold within a Vanguard variable annuity.

The tax break (which, again, is only on investment gains, i.e. nontaxable compounding) is probably worth a lot more than the 0.43% in extra expenses but I'd want to see the math on that to be sure.
For Total Stock Market Index, the tax break has negative value for most investors. In an annuity, all of your gains are tax-deferred until withdrawal, but they are taxed at your full tax rate. In a mutual fund, capital gains are still tax-deferred until withdrawal and taxed at a lower rate; dividends, which are a relatively small part of the return, are taxed annually but also at a lower rate. Therefore, even if there is no extra investment cost (non-deductible IRA instead of a variable annuity), it is probably better to hold Total Stock Market Index in a taxable account.

For a bond fund, the tax break has a positive value, since bond interest is taxed at your full rate anyway, and you get a benefit from deferral. Therefore, I often recommend that investors who have an annuity which would be expensive to cash out now exchange it to a Vanguard annuity and hold bonds there as if it were an IRA. But given the low returns of bond funds, opening a variable annuity just to hold bonds isn't worthwhile; it's better to hold municipal bonds in a taxable account.

For extremely tax-inefficient investments, the tax break may outweigh the extra costs of an annuity. If you must invest in taxable accounts, and want to hold REITs or high-yield bonds, a low-cost variable annuity may save you more in taxes than it costs in extra expenses.
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Re: Annuities: Bad in principle or practice?

Post by adam1712 »

sawhorse wrote:
Professor Emeritus wrote:all variable annuities (and all whole life policies) are ’" a kind of a giddy harumfrodite" that mixes together, usually badly, investment and insurance objectives. They are obscure and carry high fees and commissions for the sellers.
So is it the obscurity and high fees that make them bad, or are they inherently unfavorable to individual investors? If you removed the obscurity, high fees, commissions, etc. would they still be bad?

By the way, I'm focusing on variable and indexed annuities rather than fixed annuities though I welcome comments on fixed annuities too.
All annuities pay out money as some combination of investment returns from underlying stocks/bonds and then insurance payouts based on some set of conditions (mainly staying alive but also potentially if the market declines through put options).

To me, it's like going to the grocery store and buying a pre-made veggie tray. Instead of a clear cover, the tray is opaque to make it difficult to see what is inside. Even if the cover is clear, it's still just a combination of carrots, celery, cauliflower, and broccoli. If it's exactly what you need, great, but you can also just buy the individual assets if you are a DIY boglehead. Or you can pay a chef to make it for you made to order and it will probably be a similar price to the pre-made option.
555
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Re: Annuities: Bad in principle or practice?

Post by 555 »

Professor Emeritus wrote:
555 wrote:
Professor Emeritus wrote:It is very easy to compare SPIAs which means the SPIA market functions "efficiently". It is also somewhat less subject to adverse selection.
How do you know they are "less subject to adverse selection". (Just to check my understanding is right: "adverse selection" as applied SPIAs would refer to longer lived individuals being more likely to buy them, so that consequently the insurance company won't/can't offer as good a deal as they would/could with the general population. Is that what you are referring to?) I had thought this "adverse selection" might be a problem for SPIAs.
1)It is MUCH simpler to know you have a shorter life expectancy than average than a longer one.
2) suicide and similar enhanced "moral hazard" risks have few if any corresponding risks on the long side.
3) the prediction algorithm assumes that those with KNOWN shorter life expectancy don't buy the product
4) it is much easier to monitor over time your prediction algorithm.

Remember the DB pension industry has been doing these algorithms forever.
Okay, so what you say can be split into two parts.

On the one hand, the pool of people who would purchase SPIAs are in fact longer lived than the general population of the same age and gender, and so the premiums are higher, or payouts are lower.

On the one hand, the insurance companies can accurately model the pool of people who would purchase SPIAs, so at least there aren't additional costs to cover their uncertainty about the pool.
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Re: Annuities: Bad in principle or practice?

Post by skepticalobserver »

The indexed (equity and bond) annuities that I have looked at are “bad” only in the sense that there is a mile wide gap between projected returns and actual performance. Simply put, indexed annuities are structured in such a manner to, at best, generate a return on investment no better than a CD. The promise of no market losses is misdirection. Add to this the inability to get at your principal without hefty penalties imposed, usually, over ten years. The guaranteed lifetime withdrawal benefit (GLWB) features are scheduled like typical commercially available SPIAs (i.e., you have to live a long time to get a positive ROI). Oh yeah, there’s a fee (euphemistically called a “rider”) of about .95%, for the GLWB—that’ll put a nice dent on the ROI.

The first question to ask the salesperson will probably be the last: What is the guaranteed rate of interest on this thing? This will be a stumper.

If you have time on your hands and there’s free food, you might also query: what were the actual (i.e., not hypothetical back-tested stuff) best and worst ten year annualized returns, including all fees, for the annuity? Enjoy the answers!
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Re: Annuities: Bad in principle or practice?

Post by dbr »

The dictum "Don't invest in something you don't understand." would probably exclude most annuities on principle.
Professor Emeritus
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Re: Annuities: Bad in principle or practice?

Post by Professor Emeritus »

555 wrote:
On the one hand, the pool of people who would purchase SPIAs are in fact longer lived than the general population of the same age and gender, and so the premiums are higher, or payouts are lower.

On the one hand, the insurance companies can accurately model the pool of people who would purchase SPIAs, so at least there aren't additional costs to cover their uncertainty about the pool.
Higher or lower than WHAT?

The whole point of actuarial science is that while individuals face high uncertainty, Large pools do not. This is particularly true of annuities (compared to life insurance) since a catastrophe might kill a whole group of senior citizens but will rarely extend their life expectancy.
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Re: Annuities: Bad in principle or practice?

Post by 555 »

I'm abbreviating.

Anyway, in choosing whether to possibly to eventually use SPIAs, which has implications during the accumulation phase, it is a significant issue that the insurance companies presume that annuitants are longer lived than, say, what is represented here.
http://www.ssa.gov/oact/STATS/table4c6.html
befrugal
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Re: Annuities: Bad in principle or practice?

Post by befrugal »

Both. Very few of the hundreds of people I have counseled over the years understand the variable annuities or the equity indexed annuities that they own. That is a function of both the design of the products and the way that they are sold.
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Re: Annuities: Bad in principle or practice?

Post by mholdi1540 »

Here is an additional thought on purchase of annuities (pros and cons). First - before investing in an annuity max out all 401K, SER-IRA, IRA's first and if there is $$ left over that's what you would use. If in the ACCUMULATION phase use low cost annuities such as Vanguard. Second - can you guarantee yourself that with all your other savings and SSI that you will NOT run out of $$ before you die and very few can truly answer this question. That's what the annuity is set up for to give you a lifetime supply of monthly $$ (of course at a cost) so you can maintain a basic lifestyle without having to live below your standard of living as you age. And yes it does come at a cost of not having control of the $ but there are certain riders you can use to manipulate this (too much detail to go into here). Read the book "Annuities for Dummies" to get a better understanding about these features. Third -in the DISTRIBUTATION phase the older age you are to start it the higher the return will be. The credit rating of the company is important and only stick with the top rated ones. Also, each of the 50 states insurance regulators (and you can look this up easily on the internet) have a limit that they will reimburse you should the insurance company fail and as of recently 33 of the states the limit was $100,000 per policy. Therefore, if you do annuitize and you have $300,000 then put it in 3 different annuity companies to ensure maximum protection that you can get from your state. Again, it is up to you to make that choice and you will have to do your home work on that one. Remember, nothing in life is guaranteed except death, pain and taxes. The bottom line is that as you lose your human capital as you age you do not want to spend retirement and old age in poverty. Thus, man created annuities !!
dhodson
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Re: Annuities: Bad in principle or practice?

Post by dhodson »

The state doesn't actually back these. The association tries to get other companies to make you whole up to the limits.
mholdi1540
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Re: Annuities: Bad in principle or practice?

Post by mholdi1540 »

Agree with above statement. I just did not have time to go into detail. Thanks for reading. Read the book I suggested for basics..
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Re: Annuities: Bad in principle or practice?

Post by Professor Emeritus »

555 wrote:I'm abbreviating.

Anyway, in choosing whether to possibly to eventually use SPIAs, which has implications during the accumulation phase, it is a significant issue that the insurance companies presume that annuitants are longer lived than, say, what is represented here.
http://www.ssa.gov/oact/STATS/table4c6.html
sure but so what?
Everyone agrees that those with shorter life expectancies SHOULD NOT BUY ANNUITIES

But If you are in the pool of longer life expectancy individuals you have a smaller draw from your own accounts anyway.

Deferring social security is buying an annuity.
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Re: Annuities: Bad in principle or practice?

Post by pkcrafter »

itstoomuch wrote:I am talking to wife.
She wants to catch Spring Chinook Salmon but does not want to hire a guide because the guide cannot guarantee the catch.
So what is the alternative?

She wants to catch a Spring Chinook Salmon and wants to DIY but has no boat, equipment, or knowledge to where to catch the fish.
So what is the alternative?

An acquaintance/my father's friend, is a pretty good fisherman for Fall Chinook. But for Spring Chinook, he hires a guide.
So what is the alternative?

I'd better get back to wife.
:annoyed
Apologies, can't resist. If your wife simply indexed, she would get her "fair share" of fish. :happy No guide needed, and no boat, equipment or knowledge needed either!

As for your father's friend, well that's what happens when you tilt. :happy

Paul
When times are good, investors tend to forget about risk and focus on opportunity. When times are bad, investors tend to forget about opportunity and focus on risk.
Professor Emeritus
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Re: Annuities: Bad in principle or practice?

Post by Professor Emeritus »

mholdi1540 wrote:Also, each of the 50 states insurance regulators (and you can look this up easily on the internet) have a limit that they will reimburse you should the insurance company fail and as of recently 33 of the states the limit was $100,000 per policy. Therefore, if you do annuitize and you have $300,000 then put it in 3 different annuity companies to ensure maximum protection that you can get from your state.
To What Extent are Benefits Guaranteed?
Maryland law limits Guaranty Corporation coverage to the following dollar amounts:
- $250,000 in the present value of annuity benefits, including cash surrender and withdrawal values.

Maryland the limit is 250 K but I don't think the number of companies is relevant.
Professor Emeritus
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Re: Annuities: Bad in principle or practice?

Post by Professor Emeritus »

dhodson wrote:The state doesn't actually back these. The association tries to get other companies to make you whole up to the limits.
This understates the protection, at least in Md. The state requires membership in the mutual assessment pool to write policys in the state. All companies are subject to pro rata assessment Yoda would approve
“Do. Or do not. There is no try.
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Re: Annuities: Bad in principle or practice?

Post by nisiprius »

Professor Emeritus wrote:" a kind of a giddy harumfrodite"...
Rudyard Kipling, "Soldier an' Sailor, Too."

Yes, I had to Google.

http://www.poetryloverspage.com/poets/k ... r_too.html
As I was spittin' into the Ditch aboard o' the Crocodile,
I seed a man on a man-o'-war got up in the Reg'lars' style.
'E was scrapin' the paint from off of 'er plates, an' I sez to 'im, "'Oo are you?"
Sez 'e, "I'm a Jolly -- 'Er Majesty's Jolly -- soldier an' sailor too!"
Now 'is work begins by Gawd knows when, and 'is work is never through;
'E isn't one o' the reg'lar Line, nor 'e isn't one of the crew.
'E's a kind of a giddy harumfrodite -- soldier an' sailor too!
Obligatory straight line: Do you like Kipling?
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
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sometimesinvestor
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Re: Annuities: Bad in principle or practice?

Post by sometimesinvestor »

quote="555"]Could you please explain your reasoning and calculation a bit more?
sometimesinvestor wrote:At current interest immediate fixed annuities are primarily insurance against living to long. For example I read that at age 70 you can get $2000 permonth (with nothing to your heirs if you die for $314,000. Clearly that has zero value unless you live 16+ years which is slightly more than median life expectancy.
[/quote]

Can't really do the calculations but here is an article http://www.insure.com/annuity-insurance ... youts.html That says 50k will pay out $387.24 /month. but that's a 2010 article and interest rates are lower which means insurance companies make less on their investments and have to charge more. My reasoning was simple with no return on your investment (keep it in a mattress 314000/24000 (year) =13+ years a little less than life expectancy.There was some criticism of my thoughts especially indicating that I failed to understand that this is insurance and is similar to buying fire insurance which is not something you want to collect on. I will only point out that in my first early sentence I noted that it was insurance against living a long time..That is its value . It provides peace of mind regarding outliving your money.Of course with no inflation protection that may not help much. Most investments in other asset classes would probably work out better but not all will. As for the comparison suggesting that my statement implies buying term insurance is of no value if you outlive your term(I don't agree in that case). I would suggest the value of term insurance is that it is less costly to cover your need for insurance(You probably want to provide for your family needs if you die) on your life and that because it is less costly it frees up capital to invest and provide funds later. I don't know if the following argument has value to people less cynical than I am but I suggest the costs of an annuity and of term insurance are affected buy the fact that your interests coincide with the company on term insurance (You both would rater outlive your term in most cases ) while with an annuity the company prefers if you die soon.
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Re: Annuities: Bad in principle or practice?

Post by itstoomuch »

Professor Emeritus wrote:
555 wrote:I'm abbreviating.
Anyway, in choosing whether to possibly to eventually use SPIAs, which has implications during the accumulation phase, it is a significant issue that the insurance companies presume that annuitants are longer lived than, say, what is represented here.
http://www.ssa.gov/oact/STATS/table4c6.html
sure but so what?
Everyone agrees that those with shorter life expectancies SHOULD NOT BUY ANNUITIES

But If you are in the pool of longer life expectancy individuals you have a smaller draw from your own accounts anyway.

Deferring social security is buying an annuity.
"Everyone agrees" is too broad of a statement. And downright wrong.
IMHO, If one chose the death benefit option:
My first deferred annuity had annual lockups and stepups.
If a person bought/sold such at 100/value and the value drops to 85. The death benefit would be 100.
"repeat" and the value rises to 115 on anniversery date and then drops to 100, the death benefit is 115.
On such a policy, with possible less than desired life expectancy, The Annuity could be an appropriate choice (see note). I had a cancer scare which made me ineligible for further LI. I had term insurance but did not renew because of my need was no longer there for heirs.

Contrasting annuities are DYI mutual funds/indexes, most 401, 403, IRA, Roths, trading accounts. The beneficiary (owner) bears the investment risk and the mortality risk. Many people believe that they can assume the risks. Many may be deterred from Annuities because of the fees associated in transferring that risk. Me, I didn't like derisking into bonds and a lower IRR, so I bought annuities with aggressive positions while knowing my exact fees/costs.

note: If one would annuitize, as in SPIA, the owner/beneficiary reassumes the mortality risk, unless there is some rider to provide for a remainder to spouse/heirs. The rider becomes a very expensive whole life like, option.

Annuities is a blend of Insurance and Investment/Savings prior to annuitization. After annuitization, the contract becomes INCOME, much like a pension in disbursement.
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo
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Re: Annuities: Bad in principle or practice?

Post by garlandwhizzer »

One thing to consider in buying a SPIA is the effect of inflation. We have for more than 3 decades been in a period of decreasing inflation and inflation rates now are very low and projected by most to stay that way for the short and intermediate term. Most of us don't think much about inflation these days in our financial planning due to recency bias. The issue with annuities is the same as with any fixed income product (like bonds except for TIPS) that has a guaranteed income stream. That stream may look adequate when you first purchase it but increasing inflation can diminish the buying power of those nominal income streams particularly over the long run. We're talking about insuring for longevity risk and if your longevity runs on for 20 years after you buy the annuity how much will that income stream purchase? Recall what groceries or real estate or a Coke cost 20 years ago and you'll get an idea.

The financial structure of an annuity company requires a high allocation of safe fixed income for payouts to customers. In the current very low yield fixed income environment that means these companies must currently hold a high percentage of low yielding fixed income products. These will tend to be long term bonds rather than short term because their higher yields line up better for long term financial payouts. If inflation heats up, those long term bonds will nosedive in principal value and their low yields will not keep up with inflation at that point. The SPIA companies will be okay as they continue to pay customers the guaranteed rate. The customers on the other hand are stuck with monthly income reflecting the initial low yield environment, and having paid enormously up front for the SPIA, may not now have the funds to take advantage of higher bond yields in that new inflationary environment.

Inflation indexed annuities are rarely offered and extremely expensive which tells you something. Whenever you pay another party to assume risk for you, they always charge you for it, whatever it costs plus a profit, and they must take into account the worst of circumstances in their planning if they intend to stay in business. The more risk you ask them to assume the greater the profit they'll demand to take that risk. That implies that if you decide to get a SPIA, you should defer getting it until you really need it. Shorter longevity requires less profit and a lower range of inflation projections by the company.

Four points. First, SPIA aren't risk free for customers even if the company manages to make all payments as agreed. Second, as long as you have your marbles and are competent with financial decisions and money management you'll do better without them. Third, If you are concerned about your competence consider them but defer purchase as long as possible. Fourth, don't tie up all your money in an annuity. Keep some other financial assets to offset the risks of long term inflation or, alternately, purchase a considerable amount of TIPS up front when you purchase your SPIA.

Garland Whizzer
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