2023 EP0805 | Financial Updates | Should You Really Exchange that Annuity?

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Peter, good to see you. We have a really important topic today. Should you really exchange that annuity? Before you exchange your annuity, there are several questions that you should consider first because there are many situations where an exchange or transfer is not a good idea. High level Peter, when is it not a good idea to exchange an annuity? I think this is a very important topic because annuities are complex. Annuities are long term and you really need to know what you're getting into and when you plan and what you plan to get out of an annuity is maybe some of the most important considerations that you have. If you are being told to exchange an annuity that you previously purchased, well, why?

What is the incentive there? In researching this, I actually came across a recent Securities and Exchange Commission complaint against a Massachusetts advisor who, and I'm quoting here from the complaint, engaged in a pattern of deceptive behavior designed to steer his investment advisory clients into certain insurance and or annuity products, switching clients out of annuity contracts he had previously sold them and into new annuity contracts without adequately disclosing his financial incentive to recommend these switches or the details. And it was, according to the SEC, a conduct involving fraud, deceit, deliberate or reckless disregard of regulatory requirements and the fiduciary responsibility. The compensation was not disclosed and that this advisor recommended that clients purchase a new annuity by cashing out an existing annuity, often one that that advisor themselves had previously sold the client before the end of the holding period or the surrender period imposed by the annuity company. So, in other words, you know, we heard about churning of mutual funds and investment accounts back in the 80s and 90s as a practice to generate commissions for advisors. We don't hear about that as much because we've gotten into the institutional world of asset and investment management and many trades and transaction fees in investment accounts are waived or there are no costs. But that practice didn't die.

It still holds true. And especially with annuities, it can be very costly because when you enter into an annuity, there is a long term hold period known as a surrender charge period. And if you are getting out of it early, you can incur some substantial losses there. Now, it's not always the case. There are times where exchanging an annuity or purchasing an annuity can be absolutely appropriate, but you need to know what you're getting out of on one hand and what you're getting into on the other, as with any financial consideration. I hear so many red flags when you were reading that SEC report, but you just touched on it.

So let's stay there for a minute. When is it a good idea to exchange or transfer an annuity? Well, I think that there are times where it can be appropriate if you are seeing that your old annuity just has not kept up with interest rates or payout rates. If you are looking to add additional features, maybe you had like a fixed rate or an accumulation style annuity previously and you want to add the benefits of a guaranteed lifetime income without ever having to give up total control of the underlying lump sum or annuitize it if you'd like certain guarantees that are offered by income riders or if there are opportunities to further advance your growth and progress with newer index options, but you are not giving up substantial cost to get into them. Those are all times where considering the replacement of an annuity may be appropriate, but you also need full disclosure of the benefits, disadvantages and the cost in doing so. Speaking of full disclosure, I know you value transparency. So let's make sure that viewers know annuities do generate a commission for the advisor, which is why some unscrupulous advisors push annuity exchanges and exchange or transfer then generates another commission for the advisor. So how do you really know if your advisor is acting in your best interests? Right.

Yeah. And this has to deal with the different compensation models for financial professionals, right? The fee only, fee based, based on the amount of assets and advisors helping you manage in the market. The compensation is based on that account balance or a commission. And there's a lot of debate in the financial world with anything with a commission if it can fall inside of actually being in somebody's best interest.

And I think that it can. I mean, there's very little that I could justify more being in somebody's best interest than a properly placed protection for their family in case they pass away, such as a life insurance policy. But that is a product that I shop for. I don't necessarily manage it.

I don't manage it when I place it. It is something that I help a client shop for and annuities fall into that category as well. And that upfront commission that is generated, that's not based on the actual performance of the annuity. It's just based on the upfront deposit can create an inherent conflict of interest, which is supposed to be disclosed. Not only that there is a potential conflict of interest, but what that compensation is, is supposed to be disclosed. And what I'm finding is that a lot of times people are in annuities and have no idea that there is even a potential conflict of interest. They feel like they're still dealing with a fiduciary responsibility from their advisor and what that compensation was. And those are some red flags there. Now, where is it in somebody's best interest if they are looking and achieving to gain additional benefits that was not available in the current or former product or account, right?

If you would like a guarantee of lifetime income that can't be done with most 401k or IRA investment options, mutual funds, stocks, bonds that can't be achieved to have that same kind of guarantee that an annuity can offer. And even if you're going from one annuity to another, you know, you've really got to analyze and dig into the details of what one annuity, the first annuity is offering and what its pros and cons and benefits and disadvantages are versus why are we considering replacing this and getting into another one? Because typically, you will enter into a brand new fresh surrender charge period where you have a higher cost and a longer period of time if you need to access your deposit. So let's walk through some of those red flags.

If somebody is hearing them, they should pause and think. And the first one you've mentioned a couple times is that you're still within that surrender charge period. Yeah, if you've purchased an annuity and are still within that time period of commitment, known as a surrender charge period, you really need to carefully analyze how and what cost is going to be incurred if you get out of it and exchange it for another. And the exchange itself can, it's part of the tax code, it's called a 1035 exchange where you continue the tax deferred quality of being in an annuity, but you get into a new one. And if we are still within that surrender charge period, even though there's not a tax or a IRS penalty, there is still a penalty from the company.

So why would we incur that and how is that cost being offset with benefits? And then the second red flag, Peter, is that the person is being offered a bonus or a premium payment. Yeah, and this is often talked about in how to offset the surrender charge from the first one. But if the first original contract had performed so well that you could get out of it and still be above water despite the surrender charge, well, we want to be in good performing investment. So why would we take something that has performed well enough to offset the surrender charge and exchange it for a new unknown? And the bonus, the upfront, I tell clients this all the time.

Yes, that can be a nice addition. But what happens day one on something that we intend for a long term period of time is not the end all be all nor the most important factor. So we need to consider the full time of commitment period very carefully. And the third red flag here is you think you might need money from that annuity soon. Right, because we are entering into a new surrender charge period and oftentimes a much deeper surrender charge amount by exchanging the annuity. And especially if we're looking at doing this within the first few years where we incur a surrender charge and then get back into a surrender charge period. If you need your money, that is extending the period of time before you can get to all of it or limiting the amount that you can get to. So, yeah, be be certainly aware of the surrender charge period when initially considering an annuity or certainly as you are considering a replacement of an annuity.

Right, because you're restarting that clock. Next, you are offered not offered out of benefits or a guaranteed lifetime rider. Yeah, and this is a big one is that I am seeing annuities being offered and being considered or purchased because it will give me certain retirement income guarantees and certainty. And yet when annuities get exchanged, that element that offers that guarantee or certainty without having to give up control of your underlying lump sum is actually not included within the contract. A guaranteed lifetime income benefit rider is not being included in the annuity as it is being replaced. It's it's really simply based on market performance, whether or not we can grow that fund or maintain a lifetime income without having to give up the underlying control of our lump sum. Now, by definition, all annuities have the ability to be annuitized, and that is giving up control of the underlying lump sum in turn for a guaranteed payment, either for a specific period of time or for life. So all annuities have that quality. But do you want to give up control of your underlying lump sum?

Therefore, it's not in your estate when there are other alternatives that can give you the same kind of contractual guarantee for lifetime income without that requirement. And if we're exchanging one for the next and not adding that element, that is a red flag. Again, not always wrong, but a red flag to consider.

This next one seems a little bit obvious to me. You're paying higher charges for new features or features that you don't need. Yeah, always be aware of charges that are being assessed of the cost of your money and the products and the advice. And just make sure that if you are paying for a feature or a benefit that it is justified, that it is part of your plan.

Understand what you're getting for the cost of anything, especially of your money. And this last one almost smells like that bonus or premium payments. You're told the market value adjustment negates the surrender charge.

Yeah. So these are two separate items within modern annuities. One is the surrender charge, and that's always been in place on annuities. And the other is the market value adjustment.

This is based on prevailing underlying interest rates. And I am hearing and part of this complaint was that, and I am seeing personally that people have exchanged annuities and told that they would not have to pay a surrender charge. Well, the way that occurs is the market value adjustment offsets it in some form or fashion or that the bonus offsets it in some form or fashion. That does not mean that it does not get assessed, that it is not a charge. So if you are within the surrender charge period and being told, well, we won't have to pay a surrender charge because of X, Y, or Z and includes market value adjustments or bonus.

Those are separate line items within the total accounting. And that's just kind of smoke and mirrors to get somebody to replace or exchange an annuity, unfortunately. Peter, I so value having these important discussions with you because these are critically important questions whenever somebody is, you know, mentioning the pros or cons of transferring or exchanging an annuity. If somebody would like to have this discussion with you, what's the best way to reach you? Yeah, or just transparency and clarity and what it is that you own or are considering for your financial well-being is so important. And so if you've got questions about this, if you have exchanged an annuity or are being told to or considering it, reach out. I'd love to give you no cost opinion on it. See what is being offered or considered and let you know what you should know.

Pros and cons, both of the existing product that you own and hold or or what is being suggested. You can reach me at Rashaan planning nine one nine three zero zero five eight eight six Rashaan planning nine one nine three zero zero five eight eight six. You can reach out online. You can schedule an appointment right from Rashaan planning dot com. It looks like rich on planning dot com.

You can also email me Peter at Rashaan planning dot com. Happy to help you be more informed about any financial consideration on your plate. So important. All right, Peter, thank you, Aaron. Very important topic.

Thank you. This has been Planning Matters Radio. The content of this radio show is provided for informational purposes only and is not a solicitation or recommendation of any investment strategy. You are encouraged to take investment tax or legal advice from an independent professional advisor. Any investment and or investment strategies mentioned involve risk, including the possible loss of principal advisory services offered through Brooke's own capital management. A registered investment advisor, fiduciary duty extends solely to investment advisory advice and does not extend to other activities such as insurance or broker dealer services. Advisory clients are charged a quarterly fee for assets under management while insurance products pay a commission, which may result in a conflict of interest regarding compensation.