Annuities and Castles
Senator Elizabeth Warren (D-MA) loves to point out what she sees as piggish behavior on Wall Street. And as part of that crusade, a few weeks ago she issued a report that questions some practices common among sellers of annuity products. The report, provocatively titled, “Villas, Castles, and Vacations: How Perks and Giveaways Create Conflicts of Interest in the Annuity Industry,” was immediately scorned by those she targets. No surprise there.
In a nutshell, the report claims, “because of loopholes in the law, it is perfectly legal for some advisers to steer customers into complex financial products that will earn the highest rewards, perks and prizes for the advisers – even if they are bad options for their customers.”
You can see why the annuity industry might not be happy.
Annuities can make sense for some people when they promise no chance of losing money, or they promise to deliver a steady income stream in retirement, or both. And certain annuities may provide you with the ability to shelter a large amount of cash and defer paying taxes on gains in the account.
The problem is that many annuities have high fees, and all are complex. Truly, comparing two different annuities can be difficult even for financial professionals.
Here’s the key concept you need to grasp: It’s extremely unlikely that you will do better than the underlying investments. By underlying investments I mean the stock and bond markets because that is most likely where the annuity companies park your money.
Put another way, you will probably end up with less than if you had invested directly in, say, an index stock fund. That’s because annuities have expenses, layers of expenses. The issuing firm has to pay your sales rep and everyone above him or her in the organization. They have the expense of running the investments, just like mutual funds do, but in addition they must slice off charges for various special features that make an annuity an annuity and not a simple mutual fund.
So buying an annuity has always been a difficult exercise for the consumer. What Sen. Warren’s report shows is that on top of the complexity, brokers selling annuities too often are presented with real and considerable incentives to push you into particular products.
It seems to me that Sen. Warren might have been needlessly harsh in her report, but I give her a big thumbs up for shining light into this corner of the financial world.
And just this week The Wall Street Journal (11/23/15) reported on Morgan Stanley’s advisor compensation changes for 2016. Buried within the story was this, “… and more incentives to sell banking products.”
Yes, the “broker model” lives on. Whether we are talking about annuities or banking products, too often the client’s interests come in second.
It is possible to buy an annuity without paying the high broker’s fees. Check, for example, with Fidelity, Vanguard, Schwab, T. Rowe Price, or TIAA-CREF.
Shop around. Ask questions. Don’t be bullied. And don’t pay for someone else’s castle.
(This article also ran in the Huffington Post.)