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It's best to avoid putting entire 401(k) balance into account, however
Published on Sunday, Nov 30, 2008
Q: A financial adviser suggested I roll over my entire $380,000 401(k) balance into a variable annuity within an IRA. The annuity has a seven-year surrender-charge period, but guarantees 5 percent a year even if the market does worse and more if the market does better. Is this offer too good to be true?
A: It is. Either you did not understand the offer or your adviser did not explain it correctly — a common occurrence, based on my reader mail.
The 5 percent guarantee, quite common today, does not apply to your principal. The only thing guaranteed to grow at 5 percent is a number used to calculate guaranteed minimum withdrawals.
Subject to minimum age requirements and added fees, many variable annuities guarantee that you, or you and your spouse, can withdraw a percentage of your initial deposit every year for life, often 5 percent.
This guarantee, even if the
actual account value goes to zero, is made by the insurance company issuing the annuity. If investments do well and the account value grows, you could withdraw 5 percent of the higher amount.
With your annuity, you could withdraw no less than $19,000 a year for life. But you could put $380,000 under a mattress and withdraw $19,000 a year for 20 years, the life expectancy of many people who buy these annuities. The value of the guarantee is that your payments are for life and you could withdraw more if your investments do well.
For every year you delay taking withdrawals up to 10 years, many annuities raise the guaranteed withdrawals. A common guarantee is 5 percent of the original investment growing at 5 percent a year, as your annuity offers.
Others offer more, increasing by 7 percent a year the amount used to calculate withdrawals and ''locking in'' any actual investment gains more frequently. But again, you ''lock in'' just a higher number to calculate future withdrawals, not actual principal gains.
These guarantees, or ''living benefits,'' can be particularly appealing in times of market turmoil, giving purchasers ''the confidence and peace of mind to stay invested in the market,'' said Cathy Weatherford, president and CEO of the Association for Insured Retirement Solutions, a trade group formerly known as the National Association for Variable Annuities.
At the group's annual meeting this fall, 99 percent of more than 300 insurance professionals surveyed said they expected Americans to become more risk-averse. More than two-thirds predicted variable annuities with living benefits would become more popular.
There is no free lunch, however. Benefits come with higher fees that can chop a percentage point or more of your principal value each year.
You don't want just the minimum guaranteed withdrawal, which is a worst-case scenario. You want an annuity with low-enough overall expenses to give you a fighting chance of achieving good investment returns.
''The more expensive an annuity, the less likely the annuity will be able to add value,'' said Michael Bartlow, co-founder of http://AnnuityGrader.com, an advertising-free Web site that rates variable annuities with living benefits. The ratings consider company financial strength, annuity expenses, investment sub-accounts, surrender charges and benefit riders.
Regarding expenses, I wouldn't pay more than 2.75 percent a year tops to cover everything, including regular annuity charges, investment management fees and fees for living benefits.
I'd also be careful about using a withdrawal-benefit annuity in an IRA (let alone putting all my retirement money in it, or any one investment). IRAs have minimum required distributions after age 701/2 that potentially could conflict with some terms of withdrawal guarantees.
Send questions or comments to Humberto Cruz at AskHumberto@aol.com or c/o Tribune Media Services, 2225 Kenmore Ave., Buffalo, N.Y. Personal replies are not possible.
Q: A financial adviser suggested I roll over my entire $380,000 401(k) balance into a variable annuity within an IRA. The annuity has a seven-year surrender-charge period, but guarantees 5 percent a year even if the market does worse and more if the market does better. Is this offer too good to be true?
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