The following is the transcript from Episode 6 of Retire Happy with Roger Gainer, a financial and business audio podcast.
Roger: So the first thing I want people to understand whether it’s annuities, or bonds, or stocks, or real estate, or any asset class, is figure out whatever you trying to do. What keeps me up at night and what helps me to sleep better at night? That’s really what it’s all about. Why do you save and build wealth so that you can be uncomfortable? So you can be nervous? So you can be stressed out? I don’t think so. I think most people are saving money so that they can have a peace of mind and options in their life. If these tools will help to provide that I say why not use them?
Clark: You’re listening to Retire Happy with Roger Gainer. President of Gainer Financial and Insurance Services Inc. This is episode six, the two main types of annuities. Thank so much for joining us. I’m your host, Clark Buckner. Today, we’re talking all about the different kinds of annuities including what is often seen as the two main types. You’re about to hear the full conversation, but for more content like this, be sure to visit gainerfinancial.com. Let’s begin.
Roger: Hi Clark. How are you doing today?
Clark: I’m doing really well. I am super excited to revisit this topic with you. There’s been a lot of good feedback and this is always so much fun.
Roger: I’m glad you’re having a good time. I know I’m certainly am. This is a topic that we’re gonna talk about today. We touched on it in our last podcast and it’s beyond me why the topic of annuities creates so much passion. So many opinions that are not fact-based. In fact, I see articles and advertisements that really attacked this asset class in a way that just doesn’t make any sense. I think I might have mentioned before, there’s an advertiser who uses banner headlines like “Beware of Annuities” or “I hate annuities and you should too.” A couple of weeks ago at markwatch.com I even saw a banner ad for the same company that said, “Why I would die and go to hell before I would sell an annuity?” Now, I have no idea why somebody who’s supposed to be a professional adviser would have that kind of emotion around an asset class. Really, that’s all we’re talking about. It’s like saying, “I hate all stocks” or “Don’t ever buy real estate because it’s a complete rip off.” “You have to be disgusting to own a bond.” It just doesn’t make any sense. That’s why in our process, we’re always trying to figure out what is the client’s attitude and what are you trying to accomplish? Then we go out and figure out what tools, but if we eliminate a tool and it’s the perfect solution, who does that benefit? It doesn’t benefit anybody. I suppose it benefits a guy like I just mentioned who’s really trying to sell investment management services. I suppose it would benefit him or his company, but it wouldn’t necessarily benefit the investor or the client. I kinda think of a person like that or a group like that as, just imagine if the only tool you owned was a hammer, and if the only tool you owned was a hammer, everything would suddenly start looking like a nail. You know what I mean, Clark?
Clark: Yes. That is right on point.
Roger: I’ve sent away to that company for their report and a couple of occasions over the years, they keep updating the same report its filled with inaccuracies, innuendo and inferences that try to paint this broad-brush picture that all annuities are bad. They even make a claim that says, “If you have a half a million dollars in an annuity, we’ll pay your surrender charges as long as you move the money over.” And then way down deep in their fine print they explained that guarantee. They say as long as you stay with us for five years and what they’re going to do is discount their management fee for managing your assets. Now, I ran into their disclosure document and their management fee is about double what I charge for the same service. So it’s pretty easy to discount if you’re overcharging in the first place.
It’s kinda like when the grocery store says 2 for 1, but they raise the price by 50% ahead of time. When you don’t have any licenses in the financial world like the person I previously mentioned, you can get away with saying pretty much anything. You can’t say that in a grocery store by the way. You can’t raise those prices just to pretend that you’re putting something on sale. They have laws against that sort of thing, but unfortunately, when you’re under the over side of a regulator you can pretty much say whatever you want. So when we look at annuities, I just want people to understand that they’re financial tools. They’re not appropriate for everybody and for certain people, they’re absolutely the best decision you could possibly make in the best alternative for certain situations. So the first thing I want people to understand whether it’s annuities, or bonds, or stocks or real estate, or any asset class and they’re so many today, is figure out whatever you’re trying to do. What am I trying to do and what makes me comfortable? What keeps me up at night? What helps me to sleep better at night? After all, your money should help you sleep better at night. I think I’ve said that more than one time and I probably say it a hundreds more because that’s really what it’s all about. Why do you save and build wealth so that you can be uncomfortable? So you can be nervous? So you can be stressed out? I don’t think so. I think most people are saving money so that they can have peace of mind and options in their lives. So if these tools will help to provide that, I say why not use them? So Clark, let’s dig into just an overview in this session, I wanna give people an overview of the different kinds of annuities. Get use to what the different categories and then in the next few podcast I think we’ll drill down into different types a little bit more deeply so people could at least understand what the pros and the cons of these different tools are. And then maybe while you’re pondering your own circumstance, it’ll help you to determine if it’s worth investigating these tools further for your particular situation. Does that sound fair enough?
Clark: I love that. Earlier you’re saying that when you have an industry that is maybe not as easy to regulate as you could maybe a grocery store. There is a lot of noise and so I know something that you are passionate about as trying to cut through the noise and make things simple to understand. So I think it’s a great place to launch into the different kinds of annuities. I guess the first question I’m curious to hear is, how many different types are there?
Roger: They come in a lot of flavors just like ice cream, I suppose. But there’s two main types of annuities and those are single premium immediate annuities or sometimes they’re referred to as income annuities, SPIAs is how they’re referred to in the industry. And then there’s deferred annuities, the deferred annuities are annuities that you earn interest on, but you don’t pay taxes until you withdraw the money from the annuity wrapper. And we’ll dig into those more in future podcast. Today, we’re gonna talk a little bit about the S-P-I-A or SPIA as an income producer. So what these contracts are designed to do, you give an insurance company a sum of money and they return to you a stream of payments. Now, those payments can be for a specific number of years 10, 15, 20 years, or it can be for a lifetime. And that’s really what the beauty is. When I sit down and help somebody plan a retirement, if they have a pension that’s a tremendous advantage to them and it makes our job certainly much, much easier because what is a pension? A pension’s just an income annuity. It’s a series of payments that’s guaranteed to last for your lifetime. If you don’t have something like that to build your retirement security around, an income annuity might just be a great alternative because even some employers who have pension plans when an employee retires, they’ll take a chunk of money out of that pension plan and they’ll go to an insurance company and say, “Hey, we wanna buy an income annuity for this employee and we want you to guarantee those payments.” Because that way, they’re relieved of that responsibility so they really hand and glove.
There’s also another subtype called the deferred income annuity or DIA, and this is the other type of income annuity. We touched on this in our last podcast. This is an annuity where…here’s an example I recently quoted for a client, at age 65 they can put aside a $100,000 to the insurance company. What they’re essentially doing is they’re buying future income guaranteed insurance. This allows them to be a bit more aggressive with their other investments because at 65, they can spend all of their other assets before they turn 85. That $100,000 at age 85 will guarantee them $44,000 a year in annual income for the rest of their lives. And so if I’m investing a bit more aggressively or maybe spending a bit more aggressively early in retirement which a lot of people frankly want to do, you’re younger, you’re healthy, you can go hike the Machu Picchu trail or walk through the Via Dolorosa in the old city of Jerusalem. When you get older and maybe not as mobile, you’re not gonna be able to do as much of that sort of thing. So people tend to like to front-load their retirement. Well, a DIA might just be the ticket for somebody like that because then they can spend more money without the fear of “Oh my goodness, if I spend too much now, I’m just may not have it later for those final 15 or 20 years of my life.” This spies an income insurance so no matter what happens with those investments, no matter how much I overspend, I know that I’m not gonna be out in the street 20 years down the road. Either way that income annuity provides that lifetime assurance at whatever age you buy it. Generally, you’re not gonna buy one of these when you’re 40 years old or 50 years old because frankly the payouts aren’t all that spectacular, but I have a client just this week. He’s in his mid 70’s and healthy as a horse and his wife is extremely healthy and so he decided I’m gonna take a chunk of my money and buy a lifetime income. His payout for he and his wife is gonna be about 10 1/2%. So what that boils down to he’s gonna put up $40,000 and he’s gonna get back about $41,000 a year starting immediately for the rest of his life. That’s a pretty good deal.
Clark: Well, that happened immediately? $40,000 then started gaining $41,000?
Roger: Yep, he’s gonna get $41,000 a year until he dies after putting up $400,000.
Clark: Oh, got it. Four hundred thousand.
Roger: $400,000. So he exchanged $400,000 for this $41,000 a year income stream. Now, the rest of his money he’s managing in a variety of stocks and bonds, but in his situation he was concerned about the markets. He had taken a bunch of money out of the markets and he wanted to be sure that he and his wife would be able to stay in the retirement community they move to no matter what happened to those market-based investments. And that was his decision. So when we look at the immediate annuity, one of the big objections people have is if I keep that money to the insurance company, I’m gonna hit by a bus the next day.
Clark: The fear I bet a lot of people feel.
Roger: Yes indeed. And so, you know, if you talk to him in a normal conversation without discussing annuities, they would be optimistic generally speaking, thinking they’re gonna live in to their 80s or 90s and that’s why I eat well, and work out, and do all of those things. They’re good for me,but I just know if I’m gonna put this money in with an insurance company, I’m gonna get hit by a bus tomorrow and then what happens to my stream of payments? And of course if you have a basic life annuity, that stream of payment ends. Some would say, “Well, look the insurance company wins.” The insurance company wants you to live as long as you possibly can because that’s how it works. They have a big pool of people and some are gonna live longer and some are gonna live shorter and it balances it all out. The insurance company isn’t rooting against you, believe me. What they are doing is they’re managing risk and that’s how this fits in to a financial plan.
Now, because of that if you might recall I mentioned earlier that you can buy a specific period of time, 10 years, 15 years, 20 years. You can combine those two concepts and buy what’s called a life with period certain. All that means is my payments are going to continue for as long as I live or 10 years whichever last longer. You create a minimum guarantee sometimes we have what’s called a guaranteed total annuity which means if I put up a $100,000 I’m gonna get my income stream. If I die too soon, my designated beneficiary’s gonna get back the balance of my deposit that I didn’t pull. That way if I come up short in terms of years, well, at least I have the knowledge that somebody is going to get the rest of the money I put up. And of course if I go long and I go past my life expectancy, the payments continue. That really is a unique option that only a life insurance company can reasonably offer.
Clark: Right, and last time we were talking about the dependency and the reliability of insurance companies as compared to banks. Previous episode digs more to that so for some of the time we have left today, you’re mentioning some of the other classes. Before we get to that, is there anything else you want to touch on with annuities?
Roger: Well, within income annuities I wanna just get through and give you a summary of the pros and the cons of these income annuities.
Roger: So with income annuities you get a high reliable income that you can depend on regardless of market conditions. Interest rates go up, interest rates go down, the stock market goes into tank and drops 60% you still get your income. Doesn’t matter what’s happening out there. It can cover you for a lifetime even if you ran out of money you can still have income. An income is the key to retirement security. You can also cover two lives. The clients I mentioned earlier his covering his life and his wife’s life. So whoever outlives the other one is gonna get 50%, but we can put a guarantee of 75% or even a 100% to their surviving spouse. We can add guarantees in case of an early death like I just mentioned. We can have that guarantee total annuity or period of years, or period certain. You can advantageous tax treatment for non-qualified or a non IRA situation. The client I mentioned before is buying a non-qualified annuity. What that means is 95% of each years income is tax-free. It’s considered a return of premiums. So they’re fairly unique tax treatment to an income annuity that’s not in an IRA. So that means that of that $41,000 a year that this client’s going to receive, $39,000 of that or $38,000 of that is gonna be tax-free until he hits life expectancy. Once that happens then of course it does become because you would’ve been returned all of your initial deposit then the entire payment becomes taxable. Of course the guarantees, the guarantees are probably the single biggest thing.
Now, what are the cons to this? What are the downsides to an income annuity? Well, once the incomes begun you can’t stop it. There are a few that will let you stop and pull a chunk of money out, but usually that comes at a very high cost so I would prefer a different strategy. That’s why you would never put all of your money into this strategy. You can’t change your mind after you receive your first payment. You can’t say, “You know, I would’ve liked to not have that survival benefit. I don’t want that 10-year guarantee.” It’s too bad you made a decision as soon as the first payment occurs, usually it’s 30 days after you make your deposit, you can’t change your mind. If you use fixed payments here it’s another issue that sometimes can come up. You get that $41,000 this year, well, 10 years from now because of inflation it’s not gonna be worth as much. It’s not gonna buy as much. So you might lose some purchasing power due to inflation, and again, some companies will allow you to have an increasing payout based on the consumer price index or a fix percentage increase. Then of course if the markets do soar, you’re not gonna be able to use this money to invest in the market.
So those are the downsides, but if you’re looking for guaranteed lifetime income you can’t outlive, this is one of the best solutions you’re gonna find. That’s kinda the summary of the pros and cons of an income annuity. In the next few sessions we’re going to discuss what is a deferred annuity and what are the different kinds of deferred annuities. We’re gonna drill down into each one of them. What’s a variable annuity? What’s a fixed annuity? And we’re gonna wrap up with something called a fixed index annuity. What is that? Lot of conversation about it, interesting asset class, and again, a tremendous amount of emotion. So, hopefully, you’ll tune in for some of those future podcast and we can drill down even deeper into this topic.
Clark: Excellent. Just like you’re saying earlier, these are different tools and it all comes down to what an individual needs. It’s a not one size fits all and so a natural connection to that line of thinking is the thought organizer that you and your team provides. So do you wanna explain this…what the thought organizer is and how it can help someone navigate all of these different tools and help them pick the options that’s best for them.
Roger: Well, the thought organizer is really a tool that we start out with every client engagement. Every new client goes through thaecompleting a thought organizer and what that’s designed to do is to help you clarify your thinking about your personal situation. What am I trying to accomplish? What makes me comfortable? What makes me uncomfortable? What would I be doing different if I could have a do-over? And really get in touch with your situation plus what are your feelings about money? What kinds of things keep me up at night? So to see if your thinking is consistent and you can create that context for better decision making. That’s what really the thought organizer’s all about.
Clark: Excellent. So we can get there free thought organizer just on your website.
Roger: Right on the website. When you went to listen to this podcast or to read my blog, there’s a little pop-up that you can download it from. I hope people take advantage to that option and that opportunity.
Clark: And then they get to talk to you and they get to hear all the knowledge from Roger Gainer.
Roger: [laughter] All right.
Clark: I love it. All right, I will be looking forward to this next conversation. I appreciate your time as always.
Roger: Take care, Clark.
Clark: Thanks so much for listening to this episode of Retire Happy. Be sure to head on over to gainerfinancial.com to download your thought organizer to get started. Roger L Gainer, CHFC, California Insurance license number 0754849 is licensed to sell insurance and annuity products in California, Illinois, Arizona, Pennsylvania, and New York. Roger L Gainer is an investment adviser representative providing advisory services through HFIS Inc. a registered investment adviser. Gainer Financial and Insurance Services Inc. is not owned or affiliated with HFIS Inc. and operates independently.
Thanks again so much and we’ll see you next time on Retire Happy.
Roger holds the coveted and well-earned designations of Chartered Financial Consultant (ChFC®) and Retirement Income Certified Professional (RIPC®) from the American College. He is also a licensed insurance agent for life and health insurance and a Certified Paralegal for Estate Planning.