Considering the roller-coaster volatility and risk of the investment markets; the following question has been asked about money strategies:
Are you tolerant enough to wait through another seven to ten year market cycle to get back a paper loss of 20 to 50% after a substantial market correction?
Unlike expensive brokered funds that execute the sell order at the end of the business day, your advisor will not tell you about exchange traded funds that have the lowest fees and trade immediately upon execution for $4.
While most financial salespeople will gloss over the fund expense charges (and 12-b1 fees in no-load funds); the most common area of neglect is making sure that people like you are maintaining proper asset allocation with regards to your personal risk tolerance. How do you know if your asset allocation strategy is in tune with your risk tolerance?
Conventional views have espoused that asset allocation should gradually go to a more conservative stance as we get closer to the end of our working years. Traditional allocation models may inherently encourage some diversity but are by no means a safety net.
Considering the downgrade of the US credit rating by Standard & Poors and recent warnings by the other financial rating services; the basic instability of the bond markets has thrown a wrench in the works of the income portfolio concept that is commonly used by conservative investors for current expenses. You can imagine a financial salesperson on the phone with Grandma telling her to hang in there when she has resorted to a decision between food and medicine.
The fed has been buying government bonds and printing dollars artificially keeping interest rates under control for some time now. This quantitative easing along with stimulus packages and bailouts have thrown traditional market principles out the window.
While the choices for a safe guaranteed way to grow our savings may seem limited there are some viable alternatives that are often overlooked due to misinformation.
America owes much of its success to the far reaching use of long term savings provided by fixed annuities.
The first recorded use of annuities was by the Presbyterian Church who used annuity concepts to provide for widows and retired ministers.
Benjamin Franklin used annuities to provide for funds over a long period of time for his wife and for the cities of Boston and Philadelphia.
Babe Ruth, the famous baseball player, while enjoying a lifestyle of extravagance and excess kept the majority of his money in annuities. The crash of 1929 left many people broke and without funds but the Babe’s money was safe and secure.
Today the current section 403b of the tax code is based on the tax sheltered annuity and for decades has been providing retirement plans across the nation for teachers and non-profit entities.
In the course of American history, including the Civil War, the Great Depression, and our current times, no one has ever lost a penny in an annuity due to the statutory reserve requirements.
A healthy portfolio should have a conservative component and regardless of what you may have heard elsewhere, a fixed annuity can be a good choice.
Keep in mind; a variable annuity is not guaranteed and subject to market risk and loss of principle, not to mention operating expenses and administrative fees, whereas a fixed annuity is a guaranteed safe financial instrument. The opinion of some media experts has shown an obvious misunderstanding between the two plans.
The well thought out placement of a fixed annuity
into your portfolio can offer a conservative balance for your asset allocation strategy, and using this as a substantial foundation of safety would be a smart move considering today’s economy.
How would you like a guaranteed safe plan that pays gains based on a stock market index return, but protects your principal when the market declines? Heads you win, tails you don’t lose. Your interest rate is linked to an outside source such as a stock market index and you participate in a portion of the gains and you are isolated from the losses. If the stock market index goes down, you do not lose any money; your money is protected.
This is called a fixed index annuity and is an alternative for consumers who need safety and want to see their funds increase while at the same time deferring the tax liability. By placing your funds in a fixed index annuity, your account value can only increase.
Sometimes people might say, “It sounds to good to be true; what is the catch?”.... Just understanding the plan and becoming informed is the most important thing.
Banks, lenders and insurance companies use our money to make money; they invest in vehicles that pay interest and the difference of what they pay us and what they earn, they keep. This margin is used to make a profit, pay expenses, set safety reserves and pay for your benefits.
Just as banks have a time commitment on their financial instruments called “early withdrawal penalties”; so does the insurance company. Instead of early withdrawal penalties; insurance companies call them surrender charges. Having an early withdrawal or surrender charge allows the bank or insurance company to make long term commitments to you. It also allows them to have reasonable expectations of the frequency of early withdrawals and protect reserves.
As you will see, these early withdrawal or surrender charges merely enforce the time commitment that is the foundation needed in order to provide you with the guarantees and benefits you receive. In the case of a fixed index annuity; you get safety, growth potential, tax advantages, beneficiary planning advantages, and a guaranteed income for life.
You will completely avoid surrender charges as long as you take no withdrawals in excess of the penalty-free withdrawal amounts available during the surrender charge period. Thus, as long as you abide by the time commitment, you pay no surrender charge whatsoever.
What are the Fees in a Fixed Index Annuity?
From what you have read so far, surrender charges can be avoided and other than fees for any optional riders; you pay no administrative fees and operating costs. You also should understand the rationale for the index caps. They are not fees. Rather, they are simply limits on the amount of index-based interest that can be credited to the annuity, and the reason they exist is because since you have zero exposure to market loss in a year that the market index declines, it is reasonable to assume that you will not participate in 100% of the upside. If the index increase for any given period is less than the cap rate, then the cap rate has no effect on the interest credit for that period.
Until recent years the only lifetime income option was "locking in" by annuitizaton. This "locking in" to a stream of income the old way would unfortunately eliminate your liquidity.
Now, with the development of the lifetime income rider one can switch on or off an income stream and still maintain control of their money. The choice of doing this without annuitization has increased the flexibility of annuities and made them even more attractive than ever.
If you select an income rider, the carrier provides you with a guaranteed income for the rest of your life without loosing your liquidity. An income that you cannot outlive. No other financial instrument can give you an income you can't outlive regardless of how much you put into it.
Income riders often have fees associated with them, usually less than one percent of your contract value annually. Income riders are optional, so if you feel the value you will derive is not as great as the fee associated with the rider, simply choose not to include an income rider on your annuity.
If you avoid the surrender charge and do not select any riders, you will pay no fees or operating expenses whatsoever.
Regardless of what you may have heard elsewhere, fixed index annuities do not use management or contract administration fees and you do not pay commissions from your funds; the carrier pays the agent directly for their expertise.
In fact you can choose from some plans that offer a bonus to the client. If a client obtains a $100,000 annuity with a 5% bonus, the annuity will have a $105,000 accumulation value at delivery and no fees or commissions are paid by the client. The client got the 5% instead of the financial salesperson.
Only 39 companies represent 98% of all of the business for fixed index annuities in the marketplace; as of the last quarter of 2011. We narrow that list even further; they must have not taken any bailout or TARP funds, and they must be at the very top of the financial strength ladder.
Some of these top carriers have options and riders that set them apart from the others. Our job is to match the needs of the client with the most suitable plan for the best fit. Some companies have options that are offered starting at age 40 while other plans are not even available after age 55.
* If your financial salesperson has not already discussed the benefits of owning this type of program; do you really think they really want to be put on the spot with something they only have a vague idea of? When one considers this type of program there is no substitute for the professional advice of an annuity expert.
In our grandfather’s day, a worker often received a “pension” that paid a certain amount of money every month for the rest of their life. If they were married they normally had the “joint and survivor” option which would continue to pay a monthly check to their spouse after they had passed away.
These traditional pension plans are called “defined benefit plans”. Traditional defined benefit plans used fixed annuities to provide a guaranteed benefit. They “define” how much the worker will receive each month based on their life expectancy and the amount of the funds accumulated.
The “defined contribution plan” sets how much you contribute each year but generally is equity based like a 401k for example and not guaranteed with exposure to market risk and fluctuation. Some non-traditional pensions have been mismanaged experiencing problems and even become insolvent due to the use of non-guaranteed investments and real estate holdings.