Nationally syndicated columnist answers reader’s questions about the
dangers of equity-indexed annuities. “Guarding Your Wealth” is a nationally
syndicated weekly personal finance column written by Jeffrey D. Voudrie, CFP.
Mr. Voudrie is the President of Legacy Planning Group, a private wealth
management firm that employs sophisticated proprietary strategies designed to
protect and grow its clients' investments. Please visit our website, www.guardingyourwealth.com to read past articles in our
archive.
(PRWEB) -- Q. Jeff, I've been approached by someone touting
the benefits of equity indexed annuity with “Company-X”. They say my money will
be safe, there’s a minimum return and a cap with a participation rate of 100%.
They also said I’d probably average between 6%-7% without any risk to the money
I put in. I'm confused by all this. Any help you can give would be greatly
appreciated!
A. I’d be happy to help. It’s completely false when they say
you should earn 6-7% per year without any risk. The only 'guarantee' on any
equity-indexed annuity is the guaranteed minimum rate. On Company-X’s
equity-indexed annuities, their guarantee is 3% on 75% of premium.
As
you can tell, they aren’t interested in making equity-indexed annuities easy to
understand. 3% on 75% of premium means that you are only 'guaranteed' a minimum
of 2.25% on the full amount you invest. If you put in $100,000, they’ll pay you
3% on $75,000, or $2250 in interest.
Why don't they just say they'll pay
you 2.25%?
The rest of the 6-7% return they say you should safely earn is
entirely based on the stock market. More correctly, you are guaranteed of
earning 2.25% if you leave all of your money in the equity-indexed annuity for
10 years. Any additional earnings are subject to the performance of the stock
market.
They aren't even straight with the market-based returns. You
either have the option of "yield spread deducted from average monthly positive
gains or cap with no spread ".
The Spread Option: Your contract is
broken into monthly periods and the return for each period calculated. That
gives you 12 one month returns. Those are added together and divided by 12.
Lastly, the 'spread' is deducted from that average.
I don't know what
their spread is (and they can change it anyway), but if it were 3%, they’d then
subtract 3% from the average I just mentioned. Let's say your average was 7%.
7%-3%=4%. So they’d credit you 4% for that contract year.
The 100%
option: You get 100%, but only up to the cap, say 9%. So if the index goes up 9%
you get 9%. If it goes up 23% like in 2003 you still only get 9%. And they can
change the cap.
The bottom line is that you’re locked into an
equity-indexed annuity and they control everything. They can change how your
return is calculated from year to year and you have no recourse.
Q. You
stated they can’t guarantee 6-7% as my return, but that the return would be
based on the average of the S&P 500. What was the average for the last ten
or so years? And wouldn’t that be my return? Company-X has a 100% participation
rate and that sounds good, but they said there is a 7% cap on the interest rate.
That sounds pretty decent in comparison to what I can get on a fixed annuity.
What do you think?
A. As of 2/18/2005, the 10 year average annual return
of the S&P 500 was 11.5%. You participate 100% but only up to the cap--7%.
For instance, in 2003 the S&P 500 earned 23%, but this EIA would have only
earned 7%. Last year, the S&P 500 earned over 10% with dividends reinvested.
This EIA would have only earned 7%.
That’s a huge difference. $100,000
earning 7% for ten years will be worth $196,715. The same investment at 11.5%
will be worth $217,852. That is $21,137 more. Put differently, you will earn 21%
more over ten years at 11.5% then at 7%.
You shouldn't compare an
equity-indexed annuity to a fixed annuity. A better comparison would be to a
variable annuity because none of the returns of a fixed annuity are subject to
the stock market.
I don’t have any financial incentive in the advice I’m
offering you. On the other hand, the person recommending the equity-indexed
annuity will probably make a 10% commission and will provide little or no
service after you sign you up. Did they mention that?
I love to answer
reader’s questions. If you’d like free, unbiased advice send your questions to
e-mail protected from spam bots. Read answers to questions other readers have
asked on the Q&A page at www.guardingyourwealth.com.
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