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variable annuities

How to mess up a variable annuity

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Variable annuities are complex insurance products — so complex that what people actually buy and what they think they’re buying may be quite different. Those misunderstandings can end up costing them, or their heirs, a lot of money.

For the uninitiated: Variable annuities are insurance company contracts that allow people to invest money in a tax-deferred account for retirement. Returns can vary according to how the investments perform (that’s the “variable” in “variable annuity”). These contracts typically include death benefits guaranteeing your heirs will get the amount you’ve invested, and perhaps more. Many variable annuities also have living benefits, which guarantee the amount you can withdraw during your lifetime. In my latest for the Associated Press, how all these guarantees come at a cost, which can make variable annuities expensive to own.

Get a second opinion before buying annuity

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Dear Liz: Our advisor recommended that we convert our rollover IRA to an annuity. We are having difficulty researching this. Any suggestions?

Answer: Unless your advisor is a complete numskull, he probably didn’t mean you should cash out your IRA to invest in an annuity. That would incur a big, unnecessary tax bill.

The idea he’s trying to promote is to sell the investments within your IRA, which wouldn’t trigger taxes, and invest the proceeds in an annuity.

The devil is in the details — specifically, what type of annuity he’s suggesting. If he wants you to buy a variable deferred annuity, you should probably find another advisor or at least get a second opinion. The primary benefit of a variable annuity is tax deferral, which you’ve already got with your IRA. The insurance companies that provide variable annuities, which are basically mutual fund-type investments inside an insurance wrapper, tout other benefits, including locking in a certain payout. Those benefits come at the cost of higher expenses, which is why you want a neutral party — someone who doesn’t earn a commission on the sale — to review it.

If he’s suggesting you buy a fixed annuity, which typically provides you a payout for life, you still should get that second opinion. A fixed annuity creates a kind of pension for you, with checks that last as long as you do. There are downsides to consider, though. Typically, once you invest the money, you can’t get it back. Also, today’s low interest rates mean you’re not going to get as much money in those monthly checks as you would if rates were higher. Some financial planners suggest their clients put off investing in fixed annuities until that happens, or at least spread out their purchases over time in hopes of locking in more favorable rates.

You can hire a fee-only financial planner who works by the hour to review your options. You can get referrals to such planners from Garrett Planning Network, http://www.garrettplanningnetwork.com.