Jason and Emilia discuss annuities.




Below is the transcript from this show:

Speaker 1: Welcome back America to Sound Retirement Radio, where we bring you concepts, ideas, and strategies designed to help you achieve clarity, confidence, and freedom as you prepare for and transition through retirement. Now, here is your host, Jason Parker.

Jason: America, welcome back to another round of Sound Retirement Radio. I’m your host, Jason Parker, and it is my good fortune to have Emilia Bernal on the program with me this morning. Emilia, welcome.

Emilia: Welcome. Good morning everyone!

Jason: We have a great show lined up for everybody, but before we get started, I’ve got a verse. I like to get our brains working properly first thing in the morning, so here’s a verse I’d like to share with you. This comes from Luke, chapter 12, verses 42.

“And the Lord replied, “A faithful, sensible servant is one to whom the master can give the responsibility of managing his other household servants and feeding them.””

That’s verse 42 and boy, I’ve got to tell you, I love that so much and I wanted to share more but I’m going to just let you chew on that for a little bit. If you get a chance to read this in it’s entirety, this verse, Luke, chapter 12, verses 42 through 48, I really love the fact that there’s rewards for correct responsibility, correct stewardship. The piece that a lot of people don’t like is that there’s also punishment,. There’s also judgement. There’s consequences. I know a lot of people don’t like the fact that there’s consequences in life for bad decisions but it’s laid out right there. I’d love to hear your feedback, your comments.

The other thing we want to do, we want to have a little bit of fun and start with a joke. Emilia, you shared one with me this morning. I know our listeners are going to love this. What is our joke?

Emilia: I do hope so. Here we go everyone.

What do you call a pig that knows karate?

Jason: What?

Emilia: Pork Chop. Hello. Yeah!

Jason: I love that joke. The great thing about our jokes is they’re kid-friendly so you can be driving down the road in the morning and have the radio show on and you can take it home and share it with the kids over the dinner table, or the grandkids. The great part is when you tell the joke and the kids look at you and they shake their head like, “I can’t believe my mom or my dad is telling me this joke,” but they always have this little glimmer in their eye and this smile on their face. Life is good.

Okay! Our program today. Emilia, we are going to be talking. This is Episode 061. Episode 61 if you’re driving down the road. We’ve been doing this show now for 6 years, so we have a lot more than 61 episodes. It was about 61 episodes ago that I finally got smart enough to number these things so that we could have some kind of order and sense. I think if you go into iTunes, we make available 50 different podcasts. We’ve got a bunch of them up there, bunch of great content from the past. The title of this program is Annuities 101. This can be a little bit controversial. This is a topic that I think people need to learn and know more about. We’ll be talking about a special event that we have coming up.

Emilia: Jason, you mentioned yes, annuities are controversial. Why is that?

Jason: I think they’re controversial for a number of reasons. Number 1, the term annuities, the phrase annuity, encompasses a lot of different types of financial products. You’ve got income annuities, immediate annuities. You have fixed deferred annuities that work kind of like CDs. You have variable annuities that are subject to market risk. Those are the ones that I find tend to get most of the bad publicity, but people lump them all together. Then you’ve got these new fixed index annuities. They’ve been around since the mid-1990s. They have some upside potential. You participate in an equity index usually, but you transfer the risk to an insurance company so you don’t have to worry about losing money as a result of market fluctuations.

There’s a lot of different financial products out there that have the phrase or the term annuity in them. Annuities are issued by insurance companies and so one of the reasons annuities are controversial is because some people just don’t like insurance companies. For whatever the reason, they’re anti-insurance company and that’s okay.

I think, Emilia, one of the things I really want to emphasize here is that if you use the right type of annuity … Like with any financial product, there’s good, there’s bad, and there’s ugly out there, but for retirees that are getting ready for retirement, an annuity can be a really powerful tool that can add a really significant component of confidence to their financial life as they’re preparing for retirement, as they’re transitioning into retirement. You know there’s that saying throw the baby out with the bath water? We don’t to take a tool, financial vehicle that’s available to us, and say that we hate them and that they should never be used because that would be irresponsible. There’s billions of dollars flowing into these types of products every year. Some of them are good, some of them are not so good. What I think most people want is an education.

Now, I think some of the things that we need to bring to people’s attention when it comes to annuities are things like some of the headlines that have been coming out because we’ve talked about how, when you’re solving for an income gap, when you’re trying to create a retirement plan that’s based on cash flow and you say, “Okay, I’ve got a pension, I’ve got social security that equals, let’s say, $4000 per month of income, but we need $6000 of income and we want to do that conservatively,” an annuity contract is a great way to fill that gap for a lot of people. For people that are really conservative that don’t like all the fluctuations in the market.

Couple of things that have been in the headlines recently, and this is the reason we’re doing this show on annuities, is there was a article that was recently published on August 4th. The title of the article was Why Bond Funds Don’t Belong in Retirement Portfolios by Wade Pfau. Wade is a PhD. He’s a researcher, he’s a chartered financial analyst, and he makes a really strong argument about why income annuities are a better alternative for most people than bonds in a retirement portfolio. That was one of the headlines.

Then Harold Evensky, he’s been called the “Father of Financial Planning.” I can’t find the title or who put this article out, but Harold Evensky, a long time opponent of annuities, somebody who spoke harshly against them, has now said that he changed his mind on annuities. He says, “Immediate annuities will be the most important investment of the next decade.” That’s incredible. For somebody that was anti-annuity, formerly shunned annuities, calling them one of the most powerful vehicles for the next decade … This is a guy who manages $1,500,000,000 of assets, the Father of Financial Planning, he’s somebody that garners a lot of respect in our industry. For him to be coming out saying, “Hey, I’m making a 180 change on using annuities in a portfolio for retirement income,” I think that’s got a lot of people’s attention.

The final thing I want to point to here on annuities, and this is controversial in the sense that there’re people out there that hate annuities and they’re going to say that there’s never a place for them, but in my book Sound Retirement Planning when we’re talking about saving safely for retirement, Robert Shiller is an American Nobel Prize winning economist. He’s a professor of economics at Yale University. He’s been ranked as one of the 100 most influential economists in the world. In his book Irrational Exuberance the 2nd edition on page 222, he’s talking about authorities who are responsible for pension plans and the Pension Protection Fund in the United States and this is a quote from him. He says, “Authorities who are responsible for pension plans, including agencies like the Pension Benefit Guarantee Corporation in the United States or the Pension Protection Fund in the United Kingdom, should come out strongly against over-reliance on the stock market. They should instead recommend greater diversification and suggest that a substantial fraction of balances be put into safe investments such as inflation-indexed government bonds, and they should promote inflation-indexed retirement annuities and urge retirees to take the retirement income in this form.”

This guy’s a Nobel Prize winning economist, he’s not trying to sell anybody a financial product. He’s just saying, “Hey, look, this is what our government should be encouraging more people to do to put their retirement on sounder footing.” Annuities are controversial, they’re in the media all the time these days. The tide seems to have shifted from people saying, “I hate annuities. You should never use them,” to, “Let’s consider using them as part of an overall diversification strategy.”

Emilia: Great. Jason, I see that this is a very good topic to be covering with our listeners and you have a webinar coming up on Monday, September 28th also titled Annuities 101. If our listeners want to learn more about that, how can they sign up?

Jason: Yep! This is real easy. If you’ve been to any of our webinars in the past, you just visit soundretirementplanning.com. On the right-hand side of the screen, there’s going to be a great big, yellow box, it says, “Register for the webinar.” The great thing about a webinar is people can … For some people who aren’t familiar with that term, it’s just an online class, basically. There can be interaction, people can ask questions. They can type in questions, it gives me a chance to talk with people.

It’s also a very safe place to learn. One of the things I think people are afraid of is they’re interested in annuities, they go fill out some form on the internet and then all of a sudden, they’ve got people calling them and trying to pressure them and selling them on all the reasons they should buy annuities, and that’s not what people want. What people want is an education. Using a webinar format, we can say, “Okay, let’s look at this financial product that’s available. Let’s look at the positive that are associated with it and let’s also look at the negatives associated with it,” and just give people the opportunity to have a fair and balanced review of a financial tool that they may be thinking about using as they prepare for retirement. Just go to soundretirementplanning.com and look for that big, yellow box.

Emilia: Great. You’re mentioning about safety and how they feel about that, so how safe are annuities?

Jason: Yeah, that’s a great question. Really, ultimately, the financial strength of the insurance company offering the annuity contract is going to determine the safety. Now that being said, we’ve been through one of the worst financial crisis in modern history, 2008. This was financial meltdown where we saw hundreds of bank failures. At the same time, we saw very few insurance companies fail. Now, there was the big one that everybody always brings up, which was when the federal government stepped in and said, “Wow, wait a second. This too big to fail, right?” It was when AIG was on the chopping blocks and they said, “Wait, we can’t let this company go over. The risk to the economy is too great.”

The reality is very, very few, just a handful … Insurance companies tend to be foundation of the economy. In the world of failing institutions, banks are going to fail faster and more frequently than an insurance company is. You want to understand the financial strength of the company that you’re working with because ultimately, it’s that company that’s making the guarantees.

Emilia: Okay, great. With annuities, are there fees associated? What are the fees associated with annuities these days?

Jason: Yeah, that’s a great question because fees are one of the areas that people really beat up on annuities. For good reason, because some annuities really have high fees associated with them. Other annuities, not so much. That’s why when you use the term annuity, if you say, “Oh, annuities, I never want to use an annuity because they have high fees,” that wouldn’t be a true statement with some annuities. It’s an appropriate statement for some annuities.

Where I find the highest fees are in variable annuity contracts. It’s not uncommon when we really dig into those, and if people have variable annuities, we should review them, where we see fee structures at the low end ranging at about 2.5% and on the high end, 4% wouldn’t be unusual to see when you look at all of the different fees. If you’re paying 3, 4% in ongoing annual fees, that just makes it a very challenging environment to earn a fair rate of return on your money. It’s a fair criticism of annuities that some annuities have high fees, but not all annuities have high fees. For example, there’s the fixed-deferred annuity recently that we’ve been paying attention to and recommending to people where it’s paying a 2.5% interest. It has a 2.5% yield. It’s a short-term contract, it’s only 5 years. There’s no ongoing management fees or annual fees associated with it. Now, 2.5%, you think that’s pretty lousy, but right now, 10 year treasuries are barely paying 2%. If we can have an insurance company promise to pay us 2.5% over a 5 year period, half the time of a tenured treasury, with a greater sense of confidence because if interest rates go up, you’re not going to lose any money in a fixed annuity contract where in a treasury bond, you could, especially a treasury bond mutual fund, be exposed to volatility and loss.

That’s the type of thing where it makes sense. Very low fee structure, very short time period associated with it, and interest rate better than you can get in most bank CDs or treasury bonds right now. I have a very hard time finding a logical argument against using a tool like that for a lot of people. There are some, there’s always going to be some arguments against things, but for a lot of the people that we work with, something like that can make sense.

Emilia: Okay. Definitely. I think another good question is how do taxes work with annuities?

Jason: It’s another area that some people will say, “Hey, annuities are tax-deferred vehicles.” Some people say that’s a good thing, some people say it’s a bad thing. It really depends on the money that you’re funding it with. The nice thing about tax deferral is that it gives you control over when you’re going to pay your taxes. If you don’t want to pay taxes in a particular year, if you have money in a bank CD and it’s earning interest, you don’t have any control over your tax liability because every year, the bank is going to send you a 1099 and you’re going to have to pay tax on any interest that you’ve earned. If you have a fixed-deferred annuity, let’s say they’re both paying the same interest rate, the deferred annuity says if you take the money out of the contract, if you take your interest out, you’re going to pay taxes. If you just let the interest continue to build, you’re going to have compounding on that tax savings, so some people make an argument that deferred annuities can make sense from a tax standpoint.

One of the things I’m always talking to people about is I really think we are in an economic environment where tax is probably going to have to go up in the future. You know this, most of the speaking engagements we do, most of the people we talk to seem to thing taxes are going to go up in the future. Deferring taxes into the future may or may not make sense depending on each and every person’s individual circumstances and we want to be aware of the implications of that tax deferral. The nice thing about most of these contracts is that they give you that flexibility. If you want to pay tax on your interest every year, just pull the interest out, pay taxes on it, and then it works just like a bank CD does. It just gives you more control over the tax liability.

Emilia: Great. Just like an IRA then. Should you purchase an IRA inside an annuity?

Jason: I’m glad you asked that question because that is one where people say, “Well, look, an IRAs already tax-deferred. Why in the world would I want to have an IRA inside of another tax-deferred vehicle? There’s no such thing as double tax deferral, right?” That’s not the reason that you would use an annuity inside an IRA. Does it ever make sense to use IRA money inside of an annuity? The answer is absolutely yes, it does. There’s several reasons and arguments you could make for that. One of them is the nice thing about a non-qualified account, so a non-retirement account, is, especially if we’re going to be invested in an at-risk position, if we lose money in our at-risk positions, we can take those loses on our tax return. Whereas, if we lose money in our retirement accounts, our IRA accounts, there are no tax benefits associated with that. Oftentimes, when we’re looking for safe money, having an annuity inside an IRA that is allocated towards more safety, so not a variable annuity but something more like a fixed annuity. Yeah, sure that can make sense because usually when people retire, they don’t want to have all their money in an at-risk position. They want some of it safe, very safe. They want some of it for income. Then they want some of it to help fight inflation.

One of the things I really want to emphasize here, Emilia, is that the other thing that’s controversial about annuities is that if you’re in accumulation mode, if you’re still working and you’re adding money to accounts and you’re not worried at all about having any safety, then obviously the stock market’s going to give us the best opportunity for the greatest return over a long period of time. When people retire, many people shift out of an accumulation mindset. They shift into a distribution phase of retirement. They shift into an income phase of retirement and that’s where annuities make sense because that’s what they’re designed to do. It’s kind of like if I’m going to be building deck and I’m going to be hammering the decking down, I want to use a hammer to do that. I don’t want to use a stone or a screwdriver to try to hammer a nail. You want to use the best tool available for the job you’re trying to do. If it’s income that you want and it’s on a guaranteed basis and an annuity’s the only place you can use that guarantee, then that’s when it makes sense.

Emilia: Great. I want to remind our listeners that Jason is hosting an online educational meeting Monday, September 28th starting at 5:27pm. Jason, how can people register for the event and what should they expect?

Jason: Yeah, again. To register for the event, 5:27pm on the 28th of September, it’s a Monday, everybody’s favorite day of the week. 5:27 Pacific time. I know the last event that we had, we had a lot of people from the East Coast so it’s a little bit later there. Ultimately, you sign up at soundretirementplanning.com. You look for the big, yellow box. You put your e-mail address in. We’re going to e-mail you all the specifics for attending the event. We’ve had really positive response on the last couple of events that we’ve done. My hope is, again, in an educational format, in a safe format, people can ask questions. We can evaluate and review things and just help people understand that there’s no magic bullet out there. Annuities are just another financial tool that they shouldn’t be afraid of. They shouldn’t love them and say it’s the only thing that they should use, but they shouldn’t hate them and fear them either. It’s just a tool that we need to consider as part of good diversification strategy.

Emilia: Okay. For those of our listeners who are already interested in annuities, how can they find the best annuity?

Jason: That’s hard. One of the challenges with annuities is that they’re state regulated. Because they’re state regulated, the contracts are going to vary from state to state. The challenge with that is there’s not one place that you can go and say, “Okay, how can I find the best annuity rates?” What you need to be able to do is find somebody that specializes in these types of contracts. They can evaluate them for you, they can shop the different rates that are available in your state and then say, “Okay, here’s the best solution for you.”

Also, based on what it is they’re trying to accomplish. If it’s safety they’re looking for, maybe it’s a deferred fixed annuity. If it’s income they’re looking for, maybe it’s an immediate annuity. If it’s income that they’re going to want in 5 years, maybe it’s a deferred income annuity. If it’s more of an inflation concern, they’re trying to earn a greater rate of return than they can get a fixed account, maybe they want to look at something like a fixed index annuity. If they want market participation type rates and they’re looking for more volatility and they’re not so much concerned with safety but they’re looking for tax deferral on growth, maybe it’s a variable annuity. Really depends on the state that you’re living in unfortunately. I would love to be able to say there’s one website you can go and find all the best rates, but that just doesn’t exist because they’re state driven. You really have to compare them based on the state that you live in.

Emilia: Great. What is the overall purpose of the money in the annuities? Is that a question for the listeners?

Jason: That’s a great question I think everybody should be asking themselves when they’re looking at all this money that they’ve accumulated for retirement. What’s the purpose of it? You know what I hear most of the time, Emilia? What most people say is they say, “Jason, the purpose of this money is I want to know that I can maintain my lifestyle, that we’re not going to run out of money in retirement, that we’re never going to be a burden to our kids physically or financially.” If those are the concerns, obviously annuity’s not going to fix all of those different things, but some of them have long-term care features that can help protect assets from a long-term care situation. Some of them will guarantee cash flow for the rest of 2 people’s lives. Some of them have really powerful components that say they’re going to guarantee that the income base, the income account value’s going to compound and grow at a set rate. Today we can 6.5, 7% guaranteed compounding on that growth before the income actually starts.

When I talk about things that people can misunderstand what we’re talking about there, so I really think it’s important that they attend the webinar so we can get into more of the specifics so they understand how those contracts work because there’s no free launch. There’s fees associated with them, there’s surrender charges, there’s advantages and disadvantages of everything, but they can be a very powerful tool if cash flow’s what’s important. After people answer the question, “What’s more important to them?”

Emilia: Great. Just a reminder again for Jason’s webinar. It’s going to take place on Monday, September 28th beginning at 5:27pm. For all of our listeners, if you have any questions for Jason at that time, you’re all more than welcome to register on www.soundretirement.com.


Emilia: Sorry about that, yes.

Jason: The other thing is some of these articles that have been getting all the headlines recently. We’ll go ahead and post those as part of the show notes. Look, this isn’t me saying that this is what people should be thinking about. They just need to understand that there’s been a kind of a tidal wave shift that’s taken place. People are thinking differently about our retirement going forward. Part of that is because we’re in this ultra-low interest rate environment for bonds.

Folks, we’re out of time. Emilia, thank you for being my guest today.

Emilia: Thank you!

Jason: Until next week, this is Jason Parker, signing out.

Speaker 1: Information and opinions expressed here are believed to be accurate and complete, for general information only, and should not be construed as specific tax, legal, or financial advice for any individual and does not constitute a solicitation for any securities or insurance products. Please consult with your financial professional before taking action on anything discussed in this program.

Parker Financial, its representatives, or its affiliates have no liability for investment decisions or other actions taken based on the information provided in this program. All insurance-related discussions are subject to the claims-paying ability of the company. Investing involves risk.

Jason Parker is the president of Parker Financial, an independent fee-based wealth management firm located at 9057 Washington Avenue Northwest, Silverdale, Washington.

For additional information, call 1-800-514-5046 or visit us online at www.soundretirementplanning.com.