I am sure we have all seen or heard advertising for seminars that promise a “risk free retirement.” I have always been skeptical of anything that sounds too good to be true, but attending one of these seminars has actually been on my to-do list.
My father beat me to it and, after attending a seminar, he became very excited about the prospect of having a set amount of money for life without having to worry about the ups and downs of the stock market. He told me that the investment advisor leading the seminar suggested he purchase a joint life annuity contract through an insurance company. The insurance company would not charge commissions and may actually offer him a “premium,” depending on the amount of money he invests. In simple terms, these types of products guarantee to pay the insured a fixed amount of money each month until the death of the annuitant.
My father asked me to do some research to see what I thought. In looking at the various options for joint life annuities (there are many – cash surrender values, inflation protectors, surrender options, limiting the payment terms, etc.), I decided to focus on a “simple” joint annuity. I wanted to find out how much monthly income my parents could expect to receive for the rest of their lives if they were to invest $100,000 in a simple joint annuity.
I spoke to a representative from a well-known investment firm that specializes in annuities to learn what the return on investment would be on this type of annuity, given my parents’ joint life expectancy. Based on the estimated annuity term (which they said was age 95), the return on investment was a little over 4 percent per year. I was slightly surprised that the number was this high given the current interest rate environment, but it is still roughly half of the return my parents have historically earned on their stock portfolio. Of course, if they outlive the projected life expectancy, their return would increase. The reverse would be true if they do not reach the estimated life expectancy.
The risks that need to be considered with these types of policies include the insurer’s claims-paying ability/financial strength, the illiquid nature of the investment (you typically cannot sell the annuity without a large surrender fee), and future rates of inflation and interest.
We are not suggesting that annuity products cannot be part of your retirement portfolio. However, they are complex products and there are many options. If you or a family member is interested, I would encourage you to carefully research the various available plans. It is also a good idea to ask someone to review the rate of return before you invest. Consider hiring a fee-only financial planner to help you analyze your options and determine if one of these products is appropriate for your investment goals.
David E. Shaffer is a director with Kreischer Miller and a specialist for the Center for Private Company Excellence. Contact him at Email.
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