After an elderly relative of mine was sold an annuity without clearly understanding
what it was, I felt others should be forewarned.
An annuity is a contract between you and an insurance company. They promise to make
payments to you shortly after you purchase the annuity or sometime in the future. You
can purchase an annuity in one lump sum or with a series of payments.
The advantages of an annuity are supposed to be that 1. You will get payments for
life so you don't outlive your money, 2. Your beneficiaries will get at least the
principle invested when you pass on, 3. That they are tax-deferred, meaning taxes
are paid only on the money you withdraw.
The problem with annuities and selling them to elderly, are that they are a long-term
investments when it comes to profits, and the charges can be outrageous. If an elderly
person decides he or she needs the money they invested in an annuity they can face
many complicated charges. Those charges are calculated using different types of rules
and include, 1. Surrender charges, 2. 10% federal tax penalty (if the person is not
59 1/2), 3. Underlying mutual fund expenses (of the funds in the annuity), 4. Mortality
and expense risk charges, and 5. Fees and charges for other features.
Because calculating the cost can be complex and much of the cost is hidden, most
elderly investors have no idea of the charges they are actually facing when they purchase
an annuity. In order to understand all of the rules and charges they or someone
they know, would have to read the annuity contract for, at least a few hours.
Much of the heavy costs are charged if the annuity is cancelled and the money taken,
before the surrender period, which typically is seven years.
The problem I have with annuities is that is seems an awful lot of elderly people,
other than my own relative, who don't have a life expectancy of seven years,
are being sold annuities. A recent television news show portrayed an angry young
man who came home to find his parents were sold an annuity by investing $65,000 of
their retirement money. This was money they should have been living off and could not
afford to tie it up in a long-term investment or to pay surrender charges to get a lump
sum of their money, if needed. Now it was tied up in an annuity for seven years. That
means if they wanted to use their own money, they would have to pay hefty fines and fees
to access it. They didn't understand this when they were sold the annuity.
The Securities and Exchange Commission, the federal government regulatory agency for
investments, says that it is better to invest in an IRA or 401K than an annuity. The cost
are much less and they are much simpler to understand. Also, they feel long term care
insurance would be a more appropriate investment for your elderly relatives care, needing
payments over time.
Annuities are not the investment vehicle for elderly investors, the length of time to make
a profit due to the high cost of owning one and the fact that the elderly are already in
retirement make it inappropriate.
Before you consider an annuity 1. Read ALL of the fine print in the annuity contract, 2.
Ask yourself if you will live another 20 to 30 years to see your annuity make a profit.
3. Can you (or your elderly relative), afford to lose money if you had to surrender the
annuity before its contract date is up.
Lois Center-Shabazz is the founder of MsFinancialSavvy.com, and the author of the 3-time
award-winning book, Let's Get Financial Savvy.