Many of my clients have been sold a type of variable annuity that has a guaranteed value and a minimum guaranteed annual payout after a holding period. The guaranteed payout is often 5% of the guaranteed value. So if the guaranteed value is $100,000 you would get $5,000/year regardless of what the investment value of the annuity is. If the value of the annuity rises above $100,000 you would get 5% of that higher value.
Sounds like a great deal. Upside potential and downside protection.
Well a fellow NAPFA advisor analyzed one of these annuities on the insurance company’s website. Here is what she found:
- On a $100,000 contract the guaranteed payout was $416/month. This compares to $609/month for an immediate annuity (a different animal)
- In order for the contract value to grow above $100,000 there would have to be a return of at least 9%/year. This is because the internal expenses (fees, premiums, commissions etc. were 8% per year!)
- Assuming 3% inflation the annuity growth would have to be 12% per year. That would be very difficult to achieve over the long-term!
If someone offers this type of product to you. Take the time to analyze it looking at what rate of return you would have to achieve in the long-term in order for your payout to rise.
As an alternative consider a combination of an immediate annuity at retirement for some guaranteed income, along with a combination of stock mutual fund investments for long-term growth.