Annuities on the radar screen again
TEXT OF INTERVIEW
Tess Vigeland: You’d think being commander in chief would be title enough for the president of the United States. But nooooo… Turns out this one may add financial planner in chief to his bona fides. The Obama administration’s Middle Class Task Force issued a report recently that suggested annuities as a great retirement tool. That recommendation made insurance companies happier than a tween at a Justin Bieber concert.
But for those of you still scratching your head over both annuities — and the reference — we’ve got Ron Lieber with us. He writes the “Your Money” column for The New York Times. Ron, welcome back to the show.
Ron Lieber: Thanks for having me.
Vigeland: So you’re going to be helping us bring sexy back to annuities, right?
Lieber: I don’t know if they’ll ever be sexy. But, you know, the president and his crew were talking them up, and they’re on the radar screen again.
Vigeland: Yeah, well, I’m just guessing here, but I do think that annuities are probably one of those things that people have heard of but don’t really understand. Give us a quick and dirty on what they are, and then we’ll get to the pros and cons.
Lieber: Sure, well, in their simplest form, annuities allow you to turn over a chunk of income and in return, get a stream of income, often for the rest of your life. Simple as that, at least in their simplest form.
But the way they got complicated is that, sort of simple, immediate annuity that I described before, has morphed into variable annuities and other forms of annuities that might be tied to stocks or bonds or mutual funds or a particular stock index. Those types of annuities — the variable ones, in particular — have become known for high fees, high commissions. That’s where consumers, sort of, get into danger territory. But that’s not really what the Obama administration has in mind, I don’t think.
What they’re trying to solve for is the problem of people potentially running out of money during the decumulation period. Right, you retire, you’ve accumulated a bunch of money, now you’re going to spend it over what you think will be the rest of your life. The problem is, is that many Americans are not suited to setting up a plan for themselves to parcel out that money in little bits. And what the annuity could do for them, you know, if they turn over a third of the lump sum they have of retirement or half or something like that, then they can get a regular paycheck for life that’ll help insure they’ll never run out of money for their most basic of needs.
Vigeland: So then, that would be the upside. The downside presumably is that God forbid, you die sooner rather than later, you’re leaving money on the table, it’s just gone?
Lieber: I mean, there are all sorts of down sides, Tess. What you name is the first one. And again, in its simplest form of an annuity contract, yes, when you die the money’s gone. And so, if you buy the annuity at 65 and you die at 68, well, the insurance companies come out ahead. There are ways around that. I mean, you can pay a little extra or get a little less each month, so that the annuity will last 20 years, regardless of whether you die or not. And so, the rest of the money will go to your spouse or it might go to your heirs. The insurance companies come up with all sorts of ways around life span and how long you might live.
Where it starts to get tricky though is… One of the arguments that people make was that, “I can do better. I can get a better payout, if I just create an investment scheme for myself and pay myself 5 percent of my lump sum each year.” Most of these circumstances, the money won’t disappear unless some sort of catastrophic, once-in-a-generation market event occurs, right.
Vigeland: Which never happens.
Lieber: Which never happens. We haven’t seen anything like that recently. But there’s a risk that you actually aren’t capable of setting this up for yourself in the first place. If you hire someone to do it for you, that will cost money. If you are lacking in discipline, you may spend more than you are supposed to, and you will run down your assets sooner. So there are all sorts of ways that can potentially cause problems if you’re trying to handle it yourself.
Vigeland: And I know one other thing that you need to watch out for, Ron, is that there are limits on being able to insure this money, right? Say the company that sold the annuity to you goes out of business.
Lieber: Right. In the same way that you only want to put a certain amount of money in a bank account, so the FDIC will insure it in case the bank goes belly up. The same thing is true with these annuity contracts. The problem is is that they’re all overseen by different, what are called “guarantee funds” in all 50 states. And so you’ve got to see what your state guarantees. Could be as little as $100,000 per annuity or $100,000 total per individual. Could be as much as $500,000 or so.
Vigeland: You know, you pointed out in your story that even the SEC, the Securities and Exchange Commission, warns against some kinds of annuities. How do you know which ones are good and which ones to run away from?
Lieber: A good rule of thumb is that, somebody’s trying to sell it to you 10 or 20 years before you retire. There’s a pretty good chance that there are high fees involved with that and some amount of risk. Now, when you’re retiring though, I mean, what you want to ask is “Is this going to guarantee me a set payout for life that doesn’t depend on how the stock market does, and it doesn’t depend on how the bond market does?” Even if somebody’s trying to sell you a simple annuity, if they’re suggesting you should put all of your money in it, that’s almost always a bad idea. I mean, you want to be diversified in retirement as well.
Vigeland: Do you think this is part of the administration’s push for plain vanilla financial products? In some ways, isn’t this almost as vanilla as it gets?
Lieber: Well, where I think this is ultimately headed is, not only are they interested in kind of a plain vanilla path that will help supplement Social Security, but you know, it also gets to their whole theory of trying to create products that are built around people’s natural behavior. So in the same way they’ve encouraged, automatic 401(k)s, automatic IRAs, for people to be signed up as soon as they start on the job.
What they’re eventually hoping to do with these annuities is get employers to enroll 65-year-old retirees in some form of annuity with some, not all of the money, and to do it automatically and let people sort of get used to the regular paycheck. And then after a couple of years, they can opt out. No harm, no foul.
Vigeland: All right, well Ron, I don’t think you made it quite sexy, but definitely understandable. Thank you so much.
Lieber: Sure. Thanks, Tess.
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