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Now is the time to buy a variable annuity.
Old 11-02-2013, 08:29 PM   #1
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Now is the time to buy a variable annuity.

No somebody hasn't hacked my account, I am serious. The major caveat is the really applies only to those who qualify for an ACA subsidy and probably doesn't make sense for those over 62.

Here is the summary
Buying a variable annuity (VA), decreases your income for dividends and interest today. Each $1,000 in income you decrease increases your subsidy by $100-$200 a fantastic rate of return
Professor Moshe Milevsky says VA should be part of your retirement portfolio in the new edition Are you a stock or a bond
With the market at new highs you lock in profits without having to pay tax.
If the market goes up you get some of the upside.
VAs from good firms Vanguard, Schwab, Fidelity (and I bet USAA) have lower expenses, than those sold by brokers..

Background
On my recent trip/vacation. I read Are you a stock or a Bond. I found it to be good book but since I am already retired much I know or didn't apply. The one area that was a great surprise was his section on VA. Early in his career the Professor was harsh critic of VA. But lately he says that embedded put contract associated with Guaranteed Minimum Withdrawal Benefits (GMWB) is considerably cheaper than buying a longer put on the open market. This makes them good retirement products for three reasons, the provide a guaranteed income stream, protection from a bad sequence of returns, and they also provide inflation protection, especially if you invest heavily in equities.

Still the expenses are high even Schwab and Vanguard charge between 2.2-2.5% for their VAs.

I have also been scheming on how to reduce my income to qualify for an ACA. Tax loss harvest, paying property taxes early, and making a donation of appreciated stock, is not something I can do every year. What I needed is way of deferring my income until I am 65 and I get on Medicare.
Now it is also possible to do this with a fixed deferred annuity but the interest rates are still very unattractive ~2% for a 10 year. So I actually think a VA maybe a better product.

The addition of ACA subsidy and i think overcomes most of the arguments against VA.

Here is example. 55 year California couple no kids
$25,000 COLA pension
500K taxable
300K 401K
200K Roth
At 66 they get $35,000 in SS
They can live on $60K, but they really want to spend 80-85K while they are under 70. Note at 66 they make 60K from pension +SS. So the only question is how much more than can spend.

Their 500k portfolio throws off 2% in dividends and interest or $10k making their income $35,000
A BCBS enhanced Silver plan cost $889 but after a $679 subsidy is down $210/month. If they buy a VA for $250K, that cuts their income down to $30K and their can buy an insurance for $150/month and it comes with much lower deductibles $500 vs $1,500, lower copays etc. But just the $720 higher subsidy is equivalent to a 14.2% return.

They drawn down on their portfolio to meet their needs until they turn 65, secure in their knowledge that they have an adequate income once they hit SS age.

Now if the market is flat or down when they turn 65, they will still be able to withdraw ~$11,000 a year for life. If their portfolio goes up 6% a year (which would translate to a 8% market return because of the extra 2% in expenses). The couple would get an extra 20K per year. Now it is likely that couple will be in the 25% instead of the 15% bracket so that has to be figured in also.

Obviously annuities aren't good product in many situations and I know insurance salesman sell some horrible ones. But my philosophy has always been its ok to buy an annuity,just not have one sold to you. The additions of ACA subsidies I think really demands people take a second look at them with market at record levels and fixed income paying so little. On the other hand with so much of ACA in the flux, waiting for a year probably makes sense.
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Old 11-02-2013, 08:37 PM   #2
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Did you have to ruin my nice meal (Maltese-style rabbit, herbed oven fries, primo asparagus, fresh spent grain bread and a reserve Macon Villages) with this?

I see a giant hole in all of this. I don't know about the rest of you, but I am not counting on ACA subsidies staying as they are for the long term. If the expenses of ACA outweigh the revenues, the easiest, most politically palatable way to true things up will be to mess with the subsidy structure. Make the subsidies less generous, spread them farther up the income scale and thinner over all, means test with assets, etc. A VA is a permanent decision, and you would be hosed pretty good if you went into this type of vehicle and then saw the subsidies gutted in year 2 or 3. I am planning on getting what I can in the first few years, since that may be it for wealthy layabouts like us.
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Old 11-02-2013, 09:08 PM   #3
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You are absolutely right Brewer, I am making the assumption that subsidies will stay in place. (And on surface taxpayers forking out $8K in HI subsidies to an affluent couple doesn't make a lot of sense.) I personally will be waiting until late 2014 to look into doing this.

On the other hand we've had nice bull market run and I think a VA is reasonable way of locking in some of the gains. A year (14 month) put on the SPY cost ~7% and VA gives you some what similar protection for 2% in additional expenses.
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Old 11-02-2013, 09:11 PM   #4
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Quote:
Originally Posted by clifp View Post
A year (14 month) put on the SPY cost ~7% and VA gives you some what similar protection for 2% in additional expenses.
You won't know for sure until you read the 300 page contract, and maybe not even then.
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Old 11-03-2013, 08:36 AM   #5
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Suddenly having the majority of my savings in tax deferred retirement accounts looks like a good deal so I can avoid too many of those nasty taxable dividends

The ACA cliff is actually an improvement for me as I live in MA and the previous subsidy income limit was 3 x the Federal poverty limit rather than ACA's 4 times. Still my plan is more driven by the desire to keep within the 15% tax bracket. Between 52.5 and 59.5 that should be easy as most of my income will come from a 457 plan and I can adjust those taxable withdrawals. Once past 59.5 I can use a similar strategy with IRAs etc and I can defer SS until I'm well past 65 and Medicare kicks in............or I could just move back to the UK so I don't have to deal with US health insurance at all.
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Old 11-03-2013, 09:49 AM   #6
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Interesting idea -- I never really looked at variable annuities before.

Quote:
Originally Posted by clifp View Post
Here is the summary
Buying a variable annuity (VA), decreases your income for dividends and interest today. Each $1,000 in income you decrease increases your subsidy by $100-$200 a fantastic rate of return
If this is the marginal gain, the two options might be pretty close overall. In your example, the person buys a 250k VA to eliminate 10k in dividends which should result in 1k-2k extra subsidy. However, a look at vanguard suggests that the extra expense of a VA is about 0.5% -- on 250k that is about $1250 and would eat a huge chunk of the subsidy. The gains are probably better around the cliff levels, e.g. 400% and 200% of FPL.


Quote:
Originally Posted by clifp View Post
You are absolutely right Brewer, I am making the assumption that subsidies will stay in place. (And on surface taxpayers forking out $8K in HI subsidies to an affluent couple doesn't make a lot of sense.)
Well I'm hopeful the obamacare subsidies will stay since many affluent working couples already probably get ~8k in tax benefits from their current health benefits (which are untaxed). In my mind, they logically fall into the same bucket and should be treated similarly (which doesn't mean of course that they will get the same treatment).
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