Annuity Question

called "Lifeguard Freedom Flex" from Jackson National Life Insurance Company. The purpose is to provide guaranteed income for the lifetime of the last to die of myself and my wife.

amount on which the withdrawal percentage is based should increase 6% per year. Could be more if the investments do better but could not be less. I think the

6% only applies during years that there are no withdrawals and, if there are no withdrawals for the first ten years, the initial amount will double (i.e. about 7.2%/year equivalent).

had no trouble exceeding this return figure, but my wife would not be able to continue with what I am doing, so the purpose is to simplify things should I die first (which is likely since I am male and older).

Ask him for a prospectus. I am a cynic. I would want to know the exact way the return is calculated. I compare to immediate annuities and when the 'promised' return is higher than that, I ask a lot of questions. What you've posted are the nice vague verbal promises I'd heard before. When I see these in writing, I've always found "the rest of the story."

First the disclosures - I am a financial advisor and I do a lot work with variable annuities. They serve a great purpose, for the right client under the right circumstances. I am NOT familiar with this particular product and I am neither endorsing nor condemning it.

What you describe is typical of a living benefit rider. The income base, not the cash amount you can access, will increase a prescribed rate providing you with a sort of safety net should the market take a downturn at a time when you need your income stream to remain constant. The cost sounds about right - most VAs typically run about 1% to 1.5% higher in fees than similar investments in mutual funds. The 6% annual increase is usually NET of fees and typically only applies in years when you make no withdrawals.

Many of the regulars here regularly condemn VAs as costing too much, citing that they, like you, have no trouble doing better over time. That is NOT what a VA should be used for in my opinion. Rather, a VA with a living benefit rider should be used to protect the income stream that you cannot afford to be without - usually some portion of your retirement portfolio. Think of like Social Security (OK, maybe that's a bad example) or the old time pension (the check your grandfather got every month from the company he retired from). When the markets do good you get an annual increase in your payout - typically a COLA adjustment for SSA. When the markets do poorly, or worse, your monthly check remains the same. This can make it easier to make sure there is food on the table and the lights stay on when the value of your portfolio is dropping.

You should talk to your advisor about the waiting period before you can start the income stream. Many of these VAs will let you start taking withdrawals based on the protected amount BUT when you can start and how much you'll get vary based on contract details. One VA company I know of will pay you 4% of the base amount annually if you are under age 55, when you start. Wait till age 65 and you can draw 5%, at age 75 6%. I know of one company that used to (and may still) allow you draw up to 9% annually of the protected base amount BUT you have to be 90 for that to happen.

You should also ask him what amount you wife will draw against if she needs to start before 10 years have lapsed. Some companies use the initial investment grown at a percentage and some use actual contract value if you need to turn on the income stream before a certain number of years have passed.

Again, VAs can be great investments for the right person under the right circumstances.

Good luck, Gene E. Utterback, EA, RFC, ABA

This one is higher than that: 2.2% in their example; 2.5% using the Joint Option which I would be doing.

That is also true for this policy, but the 6% guarantee will also stop 10 years after inception; the ten year clock can get reset under certain circumstances.

I agree. In my particular circumstances, the reason I am considering it is to provide an income stream for my wife after I die. Until I die, we will have a protected stream; but that stream stops when I die.

It's either right away or, at most, after one year. The amount depends on the age of the youngest when withdrawals start. My wife is 62 and the rates are 4% up to 65; 5% 65-74; 6% 75-80; 7% 81+. Under certain circumstances, you can get bumped up into the next age bracket.

The only thing that happens is that the 10 year bonus of the "doubling guarantee" won't occur.

The income base increases at the greater of the value in the "cash account" or the 6% "bonus" applied to the "protected amount". (If there are withdrawals, no

6%). So, given the costs, one would have to be having some really good years in order to not be using the 6% -- probably close to 10%. And if there were a bad year, like 2007-2008, one might never "catch up".

Thank you very much for your insight.

See my response to Gene for more of the details.

I don't think the promised return is any higher than an immediate annuity. For one that will pay me and my wife until the last of us dies (from USAA), $100,000 would pay $492.34 per month or slightly less than 6%.

There's little question I can do better investing on my own; but that's not the reason I am considering an annuity.

Believe me, I'm looking for holes.

-- Ron

One other option you may consider if you are worried about your wife's status after you die, as I did, is take out an life insurance policy with the same money you put into the annuity. You won't get any, but you are OK for now with your investments, right? When you leave this mortal coil, she can live it up on the payout.

Chip

Actually, if someone with a legitimate insurance company behind them offered me a no-lose guarantee each year (and full market return in positive years) in exchange for 3%/yr, I'd consider that a bargain. It's probably worth a bit more than that. I condemn the lack of transparency. Even Ron's details were lacking one key data point, how are returns calculated? Underlying funds (with their own fees) an index? If so, which, and are total returns included (i.e. dividends as well as growth)?

When an older person comes to me, I have no issue if they choose an immediate annuity. In some cases, They can use a portion of their assets, buy the annuity and have their fixed costs taken care of. The rest they can keep invested and use it as variable cost money, vacations, etc. It's a product one can get details on easily, online, if they wish.

Depending on when I die, at my age I don't think that amount would guarantee the same income level.

Sorry I didn't provide more details, Joe. I don't think the company "calculates returns" in the sense I think you are writing about.

Here is my current level of understanding, although there is an entry on an example I've been provided that I need clarification on and will get that on Monday.

The company allows investments in a number of different funds -- I think there are about 95 -- whichever you choose and in whatever ratio you choose. There are both actively managed as well as those with a pre-defined strategy, and also some "alternative investment" options. Each of these funds has their own charges (as would any mutual fund I invested in) and the average charge is 0.99% with a range of 0.57% to 2.41% at this time.

So my "return" would be whatever these various mutual funds provide. From this are deducted the various charges and expenses (which are known up front).

So, for example, I invest $100,000. At the one year anniversary, the valuation of my accounts across all these funds is $110,000. That, of course, would be net of the mutual fund charges, which I would not expect to see as a separate item. The various program charges would then be deducted and they total 2.5% leaving me with an account balance of $107,250. Since that is greater than the $106,000 that would occur applying the 6% to the initial investment, the 107,250 is my new "protected balance".

The following year, the market is flat. My $107,250 is reduced by 2.5% expenses leaving $104,569. Since 1.06 * 107250 is greater, my "protected balance" is now $113,685. I cannot withdraw 113,685 but that is the number upon which my guaranteed 5% withdrawal will be applied; and which can never fall, even if my "account balance" falls to zero.

The following year, my account balance increases to, let us say, $113,000. That would be a return of just over 8%. But since that is less than 107,250 + 6%, the 6% kicks in to calculate the new "protected balance" of $113,685. And if I understand things correctly, the 2.5% "fees" are applied to the "protected balance" and deducted from my "account balance".

So it's not like the account balance is protected. What is protected is the number from which the guaranteed withdrawals are calculated. And, if there are a year or two of significant losses, it seems unlikely to me that the account balance would ever "catch up". Also, the 6% increase is only for the first ten years (this ten year clock can be reset if there is a "step-up" based on my actual account performance").

What is clear is that if I invest $100K in this product; and don't withdraw anything for 10 years; at that point I'll be able to withdraw 5% x $200K or $10,000 per year for the rest of our lives. It might be more if my mix of investments does well during that ten year period. After that, it could only increase if my funds do well enough, net of withdrawals and charges, to exceed the protected balance; but it will never decrease.

Joe,

I mis-wrote. There are not 95 different funds; there are only about 15-20.

-- Ron

Another mis-writing. There are a large number of funds, but I don't have an exact number (although I do have all the names). They are listed on their web site, though:

I took a quick(?) look at an 800+(!) page prospectus - enough to raise several questions. Not saying that this is a bad deal, but suggesting that one or both of us don't fully understand this policy.

Lifeguard Freedom Flex appears to be the collective name of various rider options on Jackson's VAs, and is not the name of a particular annuity. (I looked at Perspective II, since that had the lowest fees, albeit with the longest lock in period.) This is consistent with your statement that you'd pay 2.5% for a 6% "bonus" - p.67 (pdf p. 93), describing LifeGuard Freedom Flex with Joint Option GWMB. But there,

2.5% is the max allowed; current charge is 1.25%.

Note that this percentage is assessed against the guaranteed withdrawal balance (GWB) - an artificial construct somewhat unrelated to the actual contract value. As you noted, the contract value is likely to be less than the GWB, so the fee you're paying is likely to be higher than the stated percentage if measured against the actual value of the investments - thus further reducing the possibility of the investments catching up with the GWB.

That diminishing probability of investments keeping up is what makes me think of these types of contracts as fixed annuities with a small added possibility of doing better (if the market soars), rather than as investments (VAs). As such, they are subject to the insurer's ability to pay. That is, the guarantees are backed by the insurer, not the underlying investments. You might compare rates and returns with fixed annuities to see which would work better for you under what market assumptions.

The 6% "bonus" does not seem to be compounded (unless the "bonus base" - yet another calculated quantity) increases. Adding 6% to the GWB does not increase the bonus base; only a step up of GWB due to good investment performance does. See p. 120 (pdf p. 146).

I don't see anything in the contract guaranteeing a doubling in 10 years. What I do see is another rider - guaranteed minimum accumulation benefit - that guarantees your principal back after 10 years. That's not a doubling, though (just a guarantee of no loss). Also, this rider cannot be used along with the Freedom Flex rider. So I'm unclear where this "guaranteed doubling" is coming from.

None of this is advice. The only advice I have is to make sure you're absolutely clear on which contract this is, what riders you're getting, what the fees are based on, and what the possible results are.

I know I don't!

The one I am looking at is termed "Lifeguard Freedom Flex (6% bonus with annual step-ups), and I would be electing the "Joint Option".

In the literature I have, 1.25% is the fee for the Joint Option. There is also described: Annual Mortality and Expense Risk Charge of 1.10% Administrative Charge of 0.15%

(And they also mention that the average MF expenses are around 0.99%)

Yes, I did note that.

Thanks for emphasizing that point to me, that it is the company and not the underlying investment that is required to be sound.

You may be correct, as I have not seen the prospectus (but I certainly will check that point). In the literature I have it certainly states that both step-ups and the 6% bonus can increase the protected balance, and also that the

6% is based on the protected balance if it is applicable. I can't copy/paste from the document, or I'd post the full wording here. So my understanding is different from what you see in the prospectus. But my internet has been erratic and I haven't located the prospectus on line yet.

It is clearly stated in the literature I have. "A 200% GWB adjustment can increase your protected balance to double your first-year premium payments if you wait 10 years (or until age 70, if later) to take withdrawals." This is footnoted which seems to say the same thing except to also add that this adjustment does not change the "bonus base".

I appreciate your thoughts and comments, and will take them into account as I continue to investigate this product.

increase your protected balance to double your first-year premium payments if you wait 10 years (or until age 70, if later) to take withdrawals." This is footnoted which seems to say the same thing except to also add that this adjustment does not change the "bonus base".

I hope I can make my thought clear here. If one 60 year old(male) buys an immediate Annuity for $100K it returns $6936/yr. Now, while that feels like 7% it's partially a return of principal each year, and the insurance company takes the risk you will prove yourself to be a vampire and live indefinitely. (Ok, they have actuarial tables) But they expect you'd die in a nice bell curve based on your age.

60yr $100K 7%.

At 70, it jumps to $8712 or 8.7%. It's not that they are really giving you a higher rate, it's just that you've jumped ahead on the life expectancy curve. So whatever increase in benefit you get from the time you buy to the time you withdraw needs to be normalized for your advanced age. In this case that 10 year period created a jump in 'return' of 25.6% due to age alone. The rest is from them holding on to your money.

I don't quite understand the wording you presented here. My answer is just an explanation of how postponing a benefit such as social security or pension seems to increase the benefit exponentially.

increase your protected balance to double your first-year premium payments if you wait 10 years (or until age 70, if later) to take withdrawals." This is footnoted which seems to say the same thing except to also add that this adjustment does not change the "bonus base".

I'm pretty sure I understand the point you are trying to make. And I think that the decision as to purchasing an annuity is based on passing the risk to the insurance company that I will outlive my money. And that costs money. The problem is trying to determine whether that cost outweighs the benefit.

An issue, of course, is that actuarial tables are not really applicable to individual financial plans. One needs to use "worst case" scenarios (if you can call living longer than average as being a worst case).

Another issue, in the particular policy I have been looking at, is the absence of an inflation rider. At 3.5% inflation, that buying power will be cut in 1/2 after 20 years. Of course, an inflation rider also costs money.

Thank you for your input, Joe. It helps to have folks on the 'net who can help us focus on what is important.

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This option is contingent on being insurable and on the insurance being affordable. Unfortunately, most people don't buy enough of the right kind of insurance when they are young enough and in good enough health for it to be affordable. Many of those who talk about insurance will say you should only buy what you need now - hence, if you're a single person who just started working right after college and are attending grad school at least one theory says you don't need much life insurance.

But if you wind up in a position like I did - 14 months into a marriage with a new baby you get diagnosed with cancer - it could be too late to buy more insurance. This is one of the reasons I advocate buying as much insurance as you think you'll need early on, and buying some of it in some form or permanent insurance - insurance that won't lapse and for which the premium won't increase when the initial term expires.

Gene E. Utterback, EA, RFC, ABA

But you don't typically get, each year, the greater of 6% (or whatever) or the market (minus expenses). What they do is track

*two* balances. One is the portfolio value and the other is a theoretical balance which gets incremented each year by 6%. The theoretical balance will be the base upon which a payout stream may be based at some point, but you cannot simply withdraw that theoretical balance. If, though some miracle, the market (minus expenses) beats the theoretical balance - cumulatively - depending on the contract, you may be able to lock in a new base level for the theoretical balance. That theoretical balance is only actually used when you finally annuitize the thing and becomes the basis for the payments.

In order for the market to help at all, you not only have to beat 6% (plus expenses) but you need to do it on average on an ongoing basis.

You may well do better with a low-risk balanced portfolio and then ultimately go ahead an annuitize it by buying an immediate single-premium fixed annuity as far into the future as you can stand to wait. The longer you wait to trigger the annuitization, the higher the payout (because they expect you to live that much less). The VAs make the same calculation - that's why they have increases for starting the payouts later and why they can afford to make this guarantee.

Usually, VAs are subaccounts (basically mutual funds) with all the normal fund expenses (some high and some low) plus the insurance wrapper fee, plus the various riders and guarantees - all of which comes out of the balance of the actual investment account (not the theoretical one).

I love that strategy. If your fixed costs are covered, you can afford to take a lot more risk with the rest if you like.

BTW, it's worth noting that in addition to the well-known "immediateannuities.com" site, one can also go directly to certain low-cost providers who are not included there and get additional, possibly better quotes. USAA, for example, will sell annuities to anyone, not just military-related families.

Still in the investigating mode, I developed a spreadsheet to look at the range of possible returns over the past 35 years or so.

I have monthly figures for the S&P 500 Total Return dating back to 1975.

I assumed that the mutual fund "mix" that I would choose for the VA policy would match the S&P returns (perhaps that is overly optimistic); and that expenses would be deducted as per the prospectus, in which the Joint Payout option 1.25% is figured based on the "protected" balance and the other 1.25% is figured on the account balance. (Both are deducted from the account balance).

I then assumed different starting dates: 1st of each month from Jan 1975 through April 2001; and a holding period of ten years with no withdrawals.

Some interesting data, if I did this correctly:

Number of tests: 316 Median S&P Return: 14.5% Median "Protected Balance" Return: 13.1% Median "Account Balance" Return: 11.9%

There were 30 tests where the "Protected Balance" wound up at the contractual minimum (e.g. with a $100,000 initial investment, the "Protected Balance" only attained $200,000; so no step-ups). On the other tests, there were at least some step-ups.

There were 46 tests where the S&P return wound up less than even the minimum protected balance of 2 x the initial investment; and 119 instances where the protected balance wound up higher than the S&P returns.

The Standard Deviation of the S&P 500 returns was almost double that of the "Protected Balance" returns. In dollars, assuming a $100,000 initial investment:

S&P Median balance after 10 years: $386,357 ± $135,250 "Protected Balance": $342,496 ± $ 72,602

I haven't looked at the withdrawal phase yet, nor have I figured out just how I will do that -- I'd like to have a longer duration data set with the same monthly data; but I may have to settle for something else. But this does look promising so far, for the purpose I am considering.

Gene, thanks for the additional information - annuity living benefits may be amazingly complex and I certainly had no intention of trying to exhaust the various options that are out there these days. As far as I can tell, though, the GMIB which I did describe (and I'd very much appreciate any way to correct or clarify my description) is apparently the most popular living benefit I'm seeing now.

Here's a page with a concise description of GMIB plus a couple of the other popular living benefits:

(Note, of course, that AnnuityIQ is a very vocally pro-annuity site)

One of the unfortunate consequences of the vast array of different annuity riders is that it often makes it nearly impossible to do any kind of real apples-to-apples comparisons.

wow - my head hurts from trying to mentally include the ANNUITY product to any type of investment & retirement planning.

It's like - you should have one of these... but not sure why - any there are as many choices as there are mutual funds & insurance companies.