Annuities

[SecondAttempt]

What am I missing in my understanding of the annuities mentioned in this CNBC article?

As others have said, you are not missing anything.

Annuities are sold on fear. If you live unusually long they are a good deal. Note it has to be "unusually."

 

[Closet_Gamer]

This is always an interesting topic for me.

Most annuities are a borderline scam.

But immediate fixed, deferred fixed and MYGA's do seem to have some validity.

It strikes me that an annuitity has to fit in an overall AA/approach that takes into account SS and uses the guaranteed income portion as a vehicle to bump the volatility of the remaining portfolio. Just buying one and setting it to the side strikes me as a really sub-optimal, but if putting 10% of the money into an annuity allows you to take the remaining portfolio from 50/50 to 70/30, it may make sense.

Further, annuities are linked to interest rates. The current interest rate environment makes them a bad idea in the same way that 30 Treasuries at 2% are probably a bad idea. Annuities are currently low interest rate investments with a duration of "forever." But if rates pop to the high side of historic norms, they may become a good way to lock in above-average interest rates "forever".

And as others have pointed out, annuities are a form of insurance which always carries a premium. CD/Bond ladders can re-create some but not all of the long-term income protection. You pay a premium for that.

Net...I think this is more complicated than it looks.

 

[Richard4444]

You can play with words, especially marketing words, and I see Life Insurance as really Death Insurance. It pays when you die. I see SPIAs as Life Insurance, it pays while you live. I have some SPIAs and that is in my bucket for $ not going to a financial legacy. Of course annuities are a bad bet for the purchaser, otherwise the insurance company wouldn't be selling them, but they do offer a certain amount of peace of mind for a higher 'payout' than other instruments for as long as you live.

Rich

 

[Chuckanut]

You can play with words, especially marketing words, and I see Life Insurance as really Death Insurance. It pays when you die. I see SPIAs as Life Insurance, it pays while you live. I have some SPIAs and that is in my bucket for $ not going to a financial legacy. Of course annuities are a bad bet for the purchaser, otherwise the insurance company wouldn't be selling them, but they do offer a certain amount of peace of mind for a higher 'payout' than other instruments for as long as you live.

Rich

Just for fun, I read about an invention of Lorenzo di Tonti - the tontine.

https://www.kitces.com/blog/tontine...ook-review-of-milevsky-king-williams-tontine/

Thus, for instance, if 25 people were to put $1,000 each into a tontine – for a total contribution of $25,000 – and the tontine stipulated that it would pay out 6%, each year the $25,000 principal would generate $1,500 of dividends. As long as all 25 people are alive, each will receive a 1/25th share, or $1,500 / 25 = $60, which is simply equal to a 6% payout on their original $1,000 principal.


However, if after several years only 20 people remain alive, the $1,500 annual dividend (6% of the principal) is now split amongst just those 20 people, resulting in a per-person dividend increase to $1,500 / 20 = $75.


As more people pass away, the tontine payments to the survivors continue to grow (as the same total dividend payment is shared amongst a smaller and smaller pool of people), with the final few participants receiving extraordinarily large dividend payments in their final years (especially relative to their individual investment of only $1,000).

The key distinction, from the perspective of today’s era with pensions and single premium immediate annuities, is that the tontine does not pay mortality credits in advance of (and in anticipation of) the deaths occurring. Instead, mortality credits don’t accrue to the survivors until some members of the tontine pool actually pass away.

 

[OldShooter]

There is nothing in the terms of these contracts, even VAs, that makes them intrinsically bad for the annuitant. It is all in the pricing, which is usually predatory.

In "Against the Gods", Peter Bernstein talks about annuities sold by governments as a means of financing themselves. This was in the 1500s +/-. Unfortunately the concepts of statistics and mortality tables had not yet been developed. So "Taking their cue from the Dutch use of annuities, the English government [about 1789] had attempted to raise one million pounds by selling annuities that would pay back the original purchase price to the buyer over a period of 14 years --- but the contract was the same for everyone regardless of age. The result was an extremely costly piece of finance ... " This was actually an improvement over annuities they sold in 1540 where the purchase price was repaid in seven years.

Somebody please let me know if the Brits get into the annuity business again.

 

[jazz4cash]

Dialogue reminds me of a lunch conversation I had with 2 very close friends many years ago. Of the 3 of us, I was the only one with a pension from employment and I was the only one that had any level of comfort with the stock market. Theoretically I was most capable of generating income form savings but had the least need to do so. Fast forward and one friend is still working with no savings and collecting SS....should be OK with his lean but satisfying lifestyle due in part to VA healthcare. 2nd friend retired at 62 and has very comfortable lifestyle due to the lifetime annuity he purchased with his savings. I know this because he mentions it regularly. I only know a few details but his FA did suggest that he keep 10% in the market so it seems he is not working with a total sleeze. No way I would say anything negative about his decision. Diffrnt Strokes.

 

[MarieIG]

I, for one, would have loved to purchase a SPIA - but - due to the low interest rates I can't make myself do it. Moreover, when I looked at the costs containing a built-in yearly increase, the initial payments were not enough to buy groceries.

My employer has a "wealth management" company which handles their 401k. (There is an additional .52 percent management fee baked-into the 401k for them.)

When I was considering an auto payout from the 401k on a monthly basis, they I they charge $95 per withdrawal. I spoke to them about it, and they offered me an annuity.

Now, that annunity didn't start payouts to age 67; the fees were in excess of 4%; and there were seven years of surrender charges. IIRC the insurance company was Jackson. The pamphlet, which I read cover to cover, also seemed a bit suspicious. It showed (hypothetical) potential gains in yearly payments if there was an increase in the stock market, but did not state what would happen to that it the stock market tanked in year one.

Also, there was a chunk of disappearing funds on the year of purchase. No mathematician here, but I suspect that went to pay those wealth managers a commission . . .

I do have a small annunity (formerly via Vanguard) which I have to track down but I stopped contributing to that a few years back. I would not trigger it before the age of 65 in any event.

 

[pb4uski]

Nope. Guaranteed. These are deferred fixed income annuities. Payouts do not change.

I figure enough people die before payout starts and they profit from the growth of the premium as only the premium is refunded.

All that I can tell you is that everything is documented in my policy binder.

Then with respect to your original question on "return" it becomes much more complicated in that you would have to calculate the expected value for each possibile set of cash flows and mortality to derive a set of expected cash flows and then calculate an IRR (discount rate that equates those expected cash flows to the initial premium).

 

[Chuckanut]

In "Against the Gods", Peter Bernstein talks about annuities sold by governments as a means of financing themselves. This was in the 1500s +/-. Unfortunately the concepts of statistics and mortality tables had not yet been developed. So "Taking their cue from the Dutch use of annuities, the English government [about 1789] had attempted to raise one million pounds by selling annuities that would pay back the original purchase price to the buyer over a period of 14 years --- but the contract was the same for everyone regardless of age. The result was an extremely costly piece of finance ... " This was actually an improvement over annuities they sold in 1540 where the purchase price was repaid in seven years.

In the 1650's Lorenzo di Tonti created the first documented tontine. (Note the name!). The money from it was used by Louis XIV to finance his military escapades. Later French and English kings also used them to raise money. Alas, the survival rate was so high that the tontines ended being far to costly. People did not die fast enough and the yearly payouts got very big.

https://www.kitces.com/blog/tontine...ook-review-of-milevsky-king-williams-tontine/

Thus, for instance, if 25 people were to put $1,000 each into a tontine – for a total contribution of $25,000 – and the tontine stipulated that it would pay out 6%, each year the $25,000 principal would generate $1,500 of dividends. As long as all 25 people are alive, each will receive a 1/25th share, or $1,500 / 25 = $60, which is simply equal to a 6% payout on their original $1,000 principal.


However, if after several years only 20 people remain alive, the $1,500 annual dividend (6% of the principal) is now split amongst just those 20 people, resulting in a per-person dividend increase to $1,500 / 20 = $75.

But before you sign up for a new tontine consider this:

Of course, an obvious risk of the tontine is that the participants may discover a financial incentive to murder fellow tontine annuitants, or take other steps to hasten their demise, given the financial benefit of mortality credits that would accrue. However, in practice the problem with these early tontines was actually the opposite. Some tontines were structured to at least reduce this incentive (e.g., King William’s tontine capped the payments once there were only 7 survivors remaining), but as it turned out, the survival rates of those who participated in tontines was actually far superior to the general survival rates of the population.

 

[pb4uski]

....Of course annuities are a bad bet for the purchaser, otherwise the insurance company wouldn't be selling them ...

Then, every financial product is a bad bet for the purchaser, otherwise the seller wouldn't be selling them. The sellers or issuers don't do them for fun, they all claerly have a profit motive.

Mutual funds? ETFs? Savings products? CDs? Since the issuers profit from them then they must all be a bad bet for the purchaser under that tortured logic!

 

[youbet]

Then, every financial product is a bad bet for the purchaser, otherwise the seller wouldn't be selling them.

It's hard to express how wrong you are with this outlook pb.

 

[pb4uski]

^^^ Helpful.

 

[all4j]

There are several aspects to this that have potential to be of interest -- devil in the detail so won't know for a while. Plus, I expect this will evolve over time as both sides get some real world experience. But, some thoughts...& this is referring to probably fixed annuities...not myga, variable et al. Few things can be said about all annuities

Without data, I'm assuming that most annuities today are sold, not bought. & the seller pockets a nice, upfront commission. Blackrock seems to be putting themself in the middle of that in this case -- between the 401k/tdf & the 2 annuity providers. In that spot, there is at least potential for Blackrock to aggregate demand & get better (albeit slight?) deal from provider.

But the bigger part there is that they are saying they won't be taking the usual high commission. So more $ at work upfront in a possibly better product.

Is there any potential for this to become disruptive of the current sales model? Will consumers seek it out if there isn't a sales person recommending initially? I think I saw where the 401k providers will be using the tdf as the 'default' option if an employee doesn't specify another allocation. Is this possibly feeding off concern for viability of soc sec? any likelihood the tdf will become available for ira not just 401k (harder to police the caps though)?

Thoughts??

 

[all4j]

Nope. Guaranteed. These are deferred fixed income annuities. Payouts do not change.

I figure enough people die before payout starts and they profit from the growth of the premium as only the premium is refunded.

All that I can tell you is that everything is documented in my policy binder.

out of curiosity, is part of each distribution tax free as return of capital? or are gains distributed 1st until exhausted?

 

[bmcgonig]

I subscribed to MaxiFi Planner last year, the Lawrence Kotlikoff App that tries to set up your finances in retirement so that it smoothes out your discretionary spending over the entire period.

The one thing that really surprised me was that it suggested that I annuities my entire IRA at age 83. At the moment it’s about 1/3 of my investments.

 

[zinger1457]

Without data, I'm assuming that most annuities today are sold, not bought. & the seller pockets a nice, upfront commission. Blackrock seems to be putting themself in the middle of that in this case -- between the 401k/tdf & the 2 annuity providers. In that spot, there is at least potential for Blackrock to aggregate demand & get better (albeit slight?) deal from provider.

Is there any potential for this to become disruptive of the current sales model? Will consumers seek it out if there isn't a sales person recommending initially? I think I saw where the 401k providers will be using the tdf as the 'default' option if an employee doesn't specify another allocation. Is this possibly feeding off concern for viability of soc sec? any likelihood the tdf will become available for ira not just 401k (harder to police the caps though)?

Thoughts??

Maybe I missed it but who is Blackrock and what is their involvement with 401K's and annuities? Not sure if SPIA's fall in the sold rather than bought category, the commissions are much lower than other annuity products and they aren't typically pushed by brokers.

 

[jazz4cash]

Maybe I missed it but who is Blackrock and what is their involvement with 401K's and annuities?.

https://www.cnbc.com/video/2021/10/13/how-blackrock-amassed-over-9-trillion-in-managed-assets.html

 

[RetiredHappy]

Without data, I'm assuming that most annuities today are sold, not bought. & the seller pockets a nice, upfront commission.
But the bigger part there is that they are saying they won't be taking the usual high commission. So more $ at work upfront in a possibly better product.

Is there any potential for this to become disruptive of the current sales model? Will consumers seek it out if there isn't a sales person recommending initially? I think I saw where the 401k providers will be using the tdf as the 'default' option if an employee doesn't specify another allocation. Is this possibly feeding off concern for viability of soc sec? any likelihood the tdf will become available for ira not just 401k (harder to police the caps though)?

Thoughts??

Not always true! I wanted to buy the specific term deferred fixed income annuities and my previous ML FA in CA tried to dissuade me from buying because in his own words, he knew nothing about and they could not be good as investments in the stock market was better. I contacted immediate annuities to sell me the 2 specific annuities. The FA then regretted not selling to me because I pulled IRA which was under ML management to buy the annuities. He did not make the commission on the sale of annuities. I am extremely happy with the purchase of the 2 annuities. I would do that again in a heart beat, maybe even double the amount.

 

[RetiredHappy]

out of curiosity, is part of each distribution tax free as return of capital? or are gains distributed 1st until exhausted?

These were bought with my IRA money so the entire payout is taxable.

 

[RetiredHappy]

Then with respect to your original question on "return" it becomes much more complicated in that you would have to calculate the expected value for each possibile set of cash flows and mortality to derive a set of expected cash flows and then calculate an IRR (discount rate that equates those expected cash flows to the initial premium).

The best part about these 2 term annuities is that once payout starts, it will continue for the full 120 / 180 months. So I really need to live just past 70 years old, and my beneficiaries will continue to be paid for the remainder of the 15 years. I am getting close to 60 where the first term annuity will start the payout.

To be honest, I suspect LF made a mistake. They re-worked the payout for new buyers about 3 months after I bought the annuities and the 15-year payout amount reduced about 50%. My husband thought they could be trying to gain market share when I bought them. Who knows.

 

[ncbill]

I subscribed to MaxiFi Planner last year, the Lawrence Kotlikoff App that tries to set up your finances in retirement so that it smoothes out your discretionary spending over the entire period.

The one thing that really surprised me was that it suggested that I annuities my entire IRA at age 83. At the moment it’s about 1/3 of my investments.

I found much the same...annuities not recommended until after age 75 for me (in some scenarios after age 80)

 

[Luvtoride]

Not always true! I wanted to buy the specific term deferred fixed income annuities and my previous ML FA in CA tried to dissuade me from buying because in his own words, he knew nothing about and they could not be good as investments in the stock market was better. I contacted immediate annuities to sell me the 2 specific annuities. The FA then regretted not selling to me because I pulled IRA which was under ML management to buy the annuities. He did not make the commission on the sale of annuities. I am extremely happy with the purchase of the 2 annuities. I would do that again in a heart beat, maybe even double the amount.

Not surprising that a FA with a brokerage company like ML would dissuade you from annuities while pushing complex equity strategies. When I switched to a fiduciary FA, I couldn’t even explain the convoluted equity strategy that ML advisor had invested my wife’s IRA funds in.
No reason to work with a one-sided advisor when there are reasonable Insurance issued products that might work for some individuals.

Glad it worked out for you RH.

 

[DaveInMi]

Insurance companies use actuaries to write up annuity contracts just like insurance policies. On average, the insurance company comes out ahead in both annuities and policies.
It works kind of like Vegas; on average, the house wins.

 

[RobbieB]

I would hope so or they would be out of business.

 

[MikeTN]

If you paid $100,000 and received $487/month for 19 years (84-65) that's an IRR of 1.12%.

A 10 year period certain has an IRR of ~1.48% so that sounds about right.

I don't know if I would say it is skewed to the insurer.... it is just that interest rates are very low and they'll be investing your premium money mostly in bonds so you aren't going to get a lot of return.

I agree, but note one further consideration: perception of one's own longevity. A person with a known health condition that would likely shorten life (diabetes, cancer, heart condition etc. is unlikely to buy a life annuity. So those of use who do buy them will, on average, likely live a bit longer than the tables indicate. The insurance companies know this and factor it in. For SPIAs their rates are reasonable