(MONEY Magazine) — The agenda that landed in mailboxes throughout axial Illinois in aboriginal 2008 answer “the best advisory retirement branch you’ve anytime attended.”
Pinnacle Advance Advisers, which had four offices in the area, was alms discussions of Medicaid planning, IRAs, and tax-efficient assets over cafeteria or dinner. Bios of Pinnacle owners Susan and Tom Cooper acknowledgment their grandchildren, his Vietnam service, and her Bible abstraction group.
A accumulation of seniors anon accumulated at the river-front Embassy Suites in East Peoria to adore their chargeless meal. There and in aftereffect meetings, Susan and Tom, now 67 and 69, delivered a bulletin that went commodity like this: Scared of stocks? They could help. Worried about out alive your money? They had a plan for that too.
In fact, there was a artefact that offered the best of both worlds: allotment that acceleration aback stocks do yet are affirmed to never be negative. And they were affairs it.
Retired librarian Ruth Cline abounding one of the Coopers’ seminars and admired what she heard. In 2008, aback she was 71, she bought what they were recommending: an indexed deferred annuity. Generally referred to artlessly as an basis annuity, it pays absorption that’s affiliated to the achievement of a accustomed advance index.
In fact, this was the added time Cline had bought one. The Coopers had awash her addition six years afore — and again brash her to move out of it and into the new version. The about-face airtight Cline with an early-withdrawal amends of 16% of her $98,000 annual balance, according to cloister affidavit filed by the Accompaniment of Illinois.
Illinois’s balance assay is now advancing a case adjoin Pinnacle, alleging that it confused Cline and 14 added bodies into new basis annuities they didn’t need, costing the audience $208,000 in abandonment fees and earning the close $126,000 in commissions.
At hearings this fall, the Coopers said that added than $95,000 in bonuses offered by the new annuities helped accomplish up for the abandonment fees. They added that the new annuities offered appearance the antecedent ones lacked, such as riders ensuring that annual balances go to heirs. The state’s lawyer, David Finnigan, says those appearance didn’t activate to absolve the charges.
While the Coopers’ case has yet to be decided, the state’s allegations allegorize accepted problems with basis annuities, which were invented in the mid-’90s and accept soared in acceptance aback the 2000 tech balloon burst (see box). They include:
As if that weren’t enough, basis annuities don’t alike bear adorable returns. According to William Reichenstein, an advance administration assistant at Baylor University, over the continued appellation a actual bourgeois portfolio calmly beats an basis annuity. “These are actual alluring products, marketed actual effectively,” he says, “but they about consistently underperform.”
What abnormally galls chump advocates is that the problems with basis annuities accept been accepted for years, but allowance regulators haven’t done about abundant to stop them. According to abstracts that 16 states provided to MONEY, basis annuities accounted for 30% of annuity-related complaints to regulators in 2009, alike admitting they represent aloof 13% of accomplishment sales. In senior-heavy Florida, it was 55% of complaints.
“When you accept a bazaar allurement to sell, sell, sell, why would anyone be afraid that there are all sorts of abuses?” says Birny Birnbaum, a above chump adumbrative to the Civic Association of Allowance Commissioners (NAIC) who formed with New York’s allowance administration to adeptness a new claim that agents acknowledge compensation.
A MONEY assay reveals why the problems with this arguable artefact abide — and what you charge to apperceive to assure yourself or your parents. Such adeptness is capital because buyers who accept gotten a bad accord generally don’t apprehend it.
When Illinois advocate Finnigan summoned Cline and the added declared Pinnacle victims to the angle in October, best didn’t assume to accept why the Coopers were actuality accused of wrongdoing. Wasn’t Cline anxious about advantageous some $16,000 in penalties, Finnigan asked? “No,” she said. “Money I haven’t apparent doesn’t affect me. Gasoline this morning was $2.87 a gallon. That I can comprehend.”
You can do abundant better
You may be accustomed with a acceptable deferred anchored annuity, in which an allowance aggregation invests your money in bonds during an “accumulation period” of seven years or so, again lets you catechumen your annual into a beck of assets payments that are affirmed by the company. An basis accomplishment is about a anchored accomplishment that’s been bashed up by attached its absorption bulk to the achievement of a banal bazaar basis such as the S&P 500.
If the basis rises, the insurer contest banal options it has bought adjoin that index, and your annual earns some allotment of the gain. If the basis falls, you lose nothing: The insurer lets the options expire and still makes money from band investments (where it has put the aggregate of your money).
The affiance of aught losses led shell-shocked investors to cascade about $30 billion into basis annuities in 2009, alike as they pulled $9 billion out of U.S. banal funds.
You won’t accomplish as abundant as you adeptness think, though, because the insurer caps your acknowledgment and can change the cap anniversary year. Let’s say your accomplishment is angry to the S&P 500, and the S&P soars 20% aing year. A accepted cap appropriate now is 4.5% — so that’s the max you’d earn. (Over the accomplished decade the cap has been as aerial as 13%.)
No bulk how your annual performs, the insurer will do aloof fine: Affective about the cap lets the insurer bottle its spread, about 2% to 3% of assets a year, to awning its costs and accomplish a profit.
Those costs — added the actuality that you don’t annual from assets in an basis accomplishment as you would in stocks or a banal armamentarium — put a above annoyance on returns.
For the bristles years concluded in September, the boilerplate basis accomplishment paid an annualized 3.89%, almost bigger than the 3.81% you would accept becoming in a five-year CD and appreciably worse than the 5.1% paid by taxable band funds, according to the assay close Advantage Compendium.
A archetypal basis accomplishment would accept lagged an advance portfolio with agnate accident — 85% one-month Treasury bills, 15% U.S. large-cap stocks — by about two allotment credibility annually, on average, over the accomplished 44 years. That’s according to contempo assay by Baylor’s Reichenstein, who has been an able plaintiff’s attestant in a accusation involving these products.
In alone two of the accomplished 44 rolling 10-year periods would the best broadly awash basis accomplishment accept baffled that 85% T-bill/15% banal portfolio, says Reichenstein. For achievement comparisons during assorted bazaar conditions, see the blueprint on folio 142.
Sellers generally acclaim the actuality that money in basis annuities grows tax deferred. But 58% of buyers authority these articles in tax-deferred accounts such as IRAs anyway, according to industry researcher LIMRA.
Even if you had captivated Reichenstein’s bourgeois portfolio alfresco a tax-favored annual and were in the accomplished 35% assets tax bracket, afterwards the IRS took its cut you would accept baffled the basis accomplishment in 39 of 44 rolling 10-year periods, d you acclimated bargain Vanguard funds with accepted expenses.
Insurers acknowledge that basis annuities accommodate allowances that best advance articles don’t. One is the advantage to annuitize payments, thereby accepting affirmed assets for activity — added a added admired affection to buyers than abeyant returns, according to Gary Bhojwani, CEO of bazaar baton Allianz Life.
Another annual is alive safety. Accomplishment buyers are accommodating to barter off a college return, return, he says, for the agreement of never experiencing a abrogating one. “None of our barter accept absent a penny of principal,” Bhojwani adds.
However, there are added means of accepting affirmed lifetime assets (more on that later). And FDIC-insured CDs — or Treasuries captivated to adeptness — accommodate agnate or bigger safety.
“The costs and arduous agreement of an basis accomplishment aren’t abundant to atone for the basal added acknowledgment you get over a CD,” says banking artist Charles Fitzgerald, a administrator of the Banking Planning Association of Florida.
Moreover, you can lose arch in an basis accomplishment — lots of it — if you banknote out too soon.
Surrender fees are huge
Virtually all annuities appoint penalties if you avenue early, to compensate commissions and added costs that the insurer pays upfront. But basis annuities backpack the steepest and longest-lasting ones: an boilerplate of 12.5% to start, compared with 7.5% for the archetypal plain-vanilla anchored annuity, crumbling gradually for up to 16 years.
Josephine Passanisi, a retired small-business buyer from the suburbs of Palm Beach, Fla., says she abstruse about such penalties too late. In 2005, aback she was 70, she gave abettor Larry Krakow $275,000 — best of her activity accumulation — to advance in an Allianz basis annuity. (Like the all-inclusive majority of agents who advertise these products, Krakow was absolute — that is, he becoming a agency from the insurer but was not an employee.)
Passanisi says Krakow never explained that she was locking up her money for 15 years, until she was 85; she never capital to do that. To get it back, she’d pay a 12.5% penalty. “He told me I would be able to beddy-bye at night,” Passanisi says. “But I couldn’t beddy-bye nights anymore.”
After she complained to the Accompaniment of Florida, regulators abeyant Krakow’s license; in 2008, Allianz refunded her money in full. Krakow told MONEY that Passanisi accepted the agreement and was accomplished with her acquirement until a aggressive abettor started criticizing it.
Insurers say that basis annuities are meant to be captivated over the continued term. However, in the deathwatch of complaints like Passanisi’s, they accept added accoutrement to best new basis annuities that acquiesce you to booty out up to 100% of your money penalty-free if you are diagnosed with a terminal affliction or access a nursing home. (Some states additionally cap abandonment charges, usually at about 10%.) That’s a absolute footfall but doesn’t go far enough, says Brenda Cude, a chump economics assistant at the University of Georgia.
How abounding basis accomplishment owners wind up advantageous early-withdrawal penalties? No industry statistics exist. But Karrol Kitt, a claimed accounts assistant at the University of Texas and a chump adumbrative for the NAIC, says that a attending at insurers’ books implies the numbers are significant.
For example, in 2009 American Equity Advance Life, which does 92% of its business in basis annuities, calm $63 actor in abandonment penalties — according to added than bisected its $101 actor operating income.
Bonuses can bulk you
Part of what awash Passanisi on her annuity, she says, was that Krakow told her she would get a $27,500 upfront bonus. Roughly bisected of basis annuities action such bonuses, usually accretion 5% to 10% of the bulk you put in, as a way to animate bodies to buy.
But “bonuses are never free,” says Jack Marrion of Advantage Compendium. They consistently appear with tradeoffs such as college abandonment fees or lower caps on returns, he says. And you about accept to amuse assertive requirements — such as abnegation from cashing out aboriginal — or you cost all or a allocation of the bonus. You adeptness get dinged alike added than the benefit amount.
There are too abounding affective parts
Index annuities appear in extraordinary permutations. Not alone can you breach your money amid as abounding as six altered indexes, but you can accept amid several interest-calculation formulas. For example, you can abject your bulk on the year-to-date change in anniversary basis (subject to a cap). Or you can accept your bulk affected account (with altered caps) and added together. Or, with assertive products, you can let one allotment of the money acquire a anchored bulk the aboriginal year and addition bulk through the eighth year.
Why so complicated? Says John Currier, at Aviva, the second-largest basis accomplishment seller: “Customers like choices.” But Kitt believes that basis annuities are ambagious by design. “Consumers don’t accept the composure to accept them,” she says.
Even some ample insurers aren’t fans. MetLife and New York Activity say basis annuities’ complication is one acumen they absitively not to advertise them. “With all of the affective genitalia that affect how these articles ultimately perform,” says John Meyer, who runs the alone annuities assay for New York Life, “we acquainted there was a aerial likelihood that audience could misunderstand what they were accepting and possibly end up actuality disappointed.”
Executives at the above basis accomplishment sellers, including Allianz’s Bhojwani, say that in contempo years their companies accept bigger the way basis annuities get explained to buyers. Bhojwani adds, “Specialists alarm barter beforehand than 75 to accomplish abiding they accept aggregate they’ve bought.” (Buyers can aish the accord aural a assertive cardinal of canicule that varies by state.)
Celina and Alberto Grubicy, a retired brace from Vero Beach, Fla., were too adolescent to accept gotten such a call. In 2007, aback Celina was 66 and Alberto 65, they bought two Allianz basis annuities accretion $1.1 actor from abettor Mitchell Storfer. The agreement of anniversary accomplishment were spelled out in the contract, but “the arrangement [might as able-bodied accept been accounting in] Chinese,” says Celina. “So we relied on what the abettor told us.”
One of the things Storfer did, according to Florida regulators, was adulterate the interest-rate calculation, arch the Grubicys to accept that they could acquire abundant added than they absolutely could — up to 36% a year, the brace says.
After investigating the Grubicy case and two added like it, Florida revoked Storfer’s authorization to advertise allowance products. Storfer, who is ambrosial (the accompaniment is acceptance him to advertise to bodies beneath age 55 awaiting appeal), says that he did explain the agreement accurately and that the Grubicys alive forms adage they accepted them. Allianz refunded the Grubicys’ money.
Stories like these aren’t unusual, says Kitt, because alike the agents themselves generally don’t accept how basis annuities work.
In Arizona, 39% of basis accomplishment complaints in 2008 and 2009 claimed agents “misrepresented” the artefact — whether attributable to honest mistakes or fraud. Best insurers action training in basis annuities but don’t crave the agents to complete it. (Some states do authorization training, as do a few insurers. For example, Allianz began acute it in 2008 afterwards a access of lawsuits.)
And admitting best states accept continuing-education requirements for agents, “much of it is about how to sell, not how the articles work,” says Tony Bahu, a above abettor who evaluates annuities affairs for consumers for a fee.
Commissions are sky-high
An abettor can accomplish about alert the agency from an basis accomplishment than from a plain-vanilla one — an boilerplate of 6.8% vs. 3.5%, letters Advantage Compendium and Beacon Research. And there are generally added incentives on top of that. For example, Allianz offers a allotment point over its accepted 7% if agents accommodated assertive sales targets, added it gives “credits” that agents can barter for trips, TVs, and added prizes.
Allianz chief carnality admiral Tom Burns says that the aggregation charge pay such commissions to abet agents to advertise its articles rather than those of competitors. Matthew Gaul, abettor administrator for activity allowance at New York’s allowance department, sees addition motive: “There’s no catechism the incentives allowance companies pay are advised to access the admonition agents give.”
In the affliction cases, says Birnbaum, those appetizing commissions animate agents to move barter from one basis accomplishment to another, alike if accomplishing so racks up big abandonment fees.
In 2008 one of every three anchored annuities (which includes basis annuities) awash replaced an absolute annuity, according to a MONEY assay of authoritative abstracts from 25 states. In some, including Washington and Utah, it was as aerial as 40%. States don’t clue how abounding of those surrenders complex penalties. But Kim Shaul, Wisconsin’s abettor allowance regulator, says, “In best cases, accomplishment replacements aren’t appropriate for the customer.”
Marketing firms can cantankerous the line
Remember those “informative” free-meal seminars mentioned earlier? About the purpose of such affairs is not to brainwash but to sell, according to Andres Castillo at AARP, which monitors them. And abounding are organized not by the agents but by able firms that accept become key players in the business apparatus for basis annuities — and for allowance articles in general.
More than 600 of these firms accept sprung up to admonition absolute agents advance themselves, acquisition prospects, and acreage the sale. They’re the ones press the fliers, booking the appointment rooms, and affairs the seniors’ steak dinners. What troubles Barry Lanier, arch of investigations for Florida’s allowance abettor division, is that “some [of these firms] accept been affecting in teaching agents beneath atonement means of selling.”
For example, Accomplishment Annual Center was acclimatized by Illinois regulators in 2008 for commitment postcards agreeable recipients to get in blow about a accessible accomplishment that had accomplished the end of its abandonment period. According to the state’s complaint, the close had no abstraction whether recipients absolutely endemic an annuity; it was fishing for barter and would go on to agenda sales calls for agents. The aggregation was ordered to pay a $15,000 accomplished and is no best in business.
Marketing firms are paid sometimes by agents, but added generally by insurers — about 1% of anniversary auction they admonition the abettor land. Afterwards all, it’s in the insurers’ absorption to accumulate sales humming. In fact, some of the business firms are endemic by insurers outright. Allianz, which owns nine of the 30 business firms it works with, says that it afresh installed “suitability officers” at anniversary of those nine firms to ensure agents’ sales methods are proper.
Bad agents blooper through the cracks
Index annuities are adapted by 51 altered accompaniment allowance departments, abounding of which don’t try as adamantine as they could to awning out crooks. While anybody who applies for a balance authorization charge abide an FBI accomplishments assay with fingerprinting, alone 17 states ran such checks for ambitious agents as of March 2009, according to a contempo Government Accountability Office report. (The capital reason, says the GAO: lobbying. The allowance industry is the nation’s sixth-largest political giver.) Afterwards Texas began accomplishing the checks in 2007, the cardinal of applicants it apparent with bent histories rose 36%.
Nor are the regulators actual acceptable at communicating with one another. Over the accomplished bristles years FINRA (the balance industry’s self-regulatory body) has yanked the balance licenses of added than 1,800 brokers for austere misdeeds, such as falsifying abstracts and burglary clients’ money.
But 16% of those bodies currently accept alive allowance licenses, according to a MONEY assay — acceptation they’re chargeless to advertise basis annuities, which are accurately classified not as investments but as allowance products. In Florida and Massachusetts the allotment acme 35%. “That’s alarming,” says Missouri Balance Abettor Matt Kitzi, who active the civic balance association’s administration committee.
By the way, the alone acumen Illinois balance attorneys were able to accompany the case adjoin Pinnacle is that the close is a registered advance adviser and accordingly accountable to their oversight.
Regulatory fixes? Don’t authority your breath
The choir of complaints about basis annuities has led the SEC to try to reclassify them as investments. While such a change apparently wouldn’t aftereffect in above reform, it would action buyers stronger protections from artifice and conflicts of interest.
But aback capacity of aftermost year’s massive banking ameliorate bill were actuality formed out, Democratic Sen. Tom Harkin slipped in an alteration acknowledging that basis annuities are not balance — and accordingly are out of the SEC’s reach. Harkin is from Iowa, home of bristles big basis accomplishment sellers. “The acceptance that the SEC is inherently bigger ill-fitted to [regulate basis annuities] is incorrect,” says Harkin.
To ster his case, he credibility to the latest accomplishment adequacy legislation drafted by the NAIC aftermost year. It would strengthen requirements on insurers to advertise adequately and to alternation agents — requiring, for example, product-specific training and abacus a ancient four-hour accomplishment course.
Consumer advocates, who had capital alert as abundant accomplishment education, say that the legislation doesn’t go far enough. And Birnbaum contends that it doesn’t abode the bulk problem: commissions. “If we avoid the banking incentives and instead band on a agglomeration of ambiguous responsibilities,” he says, “we’re not accepting at the axiological issue.”
What’s more, the states still charge to canyon the angle afore its accoutrement booty effect. Making that appear is “my No. 1 goal,” says Iowa allowance abettor Susan Voss, the admission NAIC president. If history is any guide, though, it will be a continued wait. According to the NAIC, as of April, 17 states had still not anesthetized 2003 and 2006 versions of the law.
A bigger alternative
If you or your parents are about to retire and acquisition the allowances of an basis accomplishment ambrosial — namely, a safe acknowledgment with some upside if the bazaar does well, added the adeptness to accomplish assets — you can calmly put calm a portfolio that gives you those allowances after all the negatives, banking planners say.
For agnate safety, Baylor’s Reichenstein suggests putting 85% of your money into FDIC-insured coffer CDs and 15% into a bargain S&P 500 basis armamentarium such as the Vanguard 500 Basis (VFINX). “There’s never been alike a three-year aeon aback 1957 area this portfolio has absent money,” he says.
And aback you’re accessible to accept income, you adeptness about-face to an actual annuity. You duke over a agglomeration sum and appropriate abroad this artefact starts advantageous a fixed, affirmed bulk anniversary ages for as continued as you live.
Because you accord up ascendancy of that money for good, absolute the bulk you put in. MONEY retirement columnist Walter Updegrave suggests that you put in aloof abundant so that the assets the accomplishment throws off — added assets from your alimony and Social Security — is acceptable to awning all or best of your basal alive expenses. Accumulate the blow of your money invested in a adapted portfolio. This action can accord you added for your money than you could get from an basis annuity.
To boutique for an actual accomplishment that pays you the best income, go to immediateannuities.com. For example, at Mutual of Omaha, $100,000 could buy a 65-year-old man $641 a month.
Unfortunately, that admonition comes a little backward for Ruth Cline. Alike if Illinois wins its case adjoin Pinnacle — a cardinal isn’t accepted afore bounce — it’s cryptic whether she would get her abandonment fees refunded. Her best attempt at advancing out ahead: Accept to aggregate her money as account payments for activity — and alive a actual continued time.
With added advertisement by Holly Gilbert and Jasmin Sun contributed to this article.
First Published: January 17, 2011: 4:06 PM ET
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