Variable annuity investments are complicated, and many financial advisors believe their complexities make them unsuitable for most investors. These investments are contracts with insurance companies that are set up similarly to mutual funds — they comprise a bundle of securities that will hopefully perform well enough to generate interest. When a variable annuity starts making payouts it can, if all goes well, serve as a source of reliable income. According to some calculations, this could be a good way to turn savings into income during retirement.
But it’s not that simple. There are so many fees associated with variable annuities that they’re prone to mismanagement and losses. As financial advisor Ric Edelman told CNBC, “One of the problems with many of today’s [variable annuities] is that they are ridiculously complicated. They have features and riders that serve no useful purpose to the consumer, that are both confusing, limiting, and very expensive.”
For example, investors can only access the many benefits once the annuity is annuitized, i.e., once they have started making regular payouts. And yet, 95% of variable annuities are never annuitized, suggesting that investors don’t fully understand how their annuity works.
Variable annuities won’t necessarily provide a good income during retirement. What’s more, they also risk losing a lot of money, making them totally unsuitable to a wide variety of investors.
Penalties and Fees
Variable annuities come with numerous fees and penalties. These are just a few examples:
- Most don’t mature for 6 to 8 years. Investors who withdraw before the maturity date will have to pay a penalty.
- There is also a penalty for withdrawing from a variable annuity before the age of 59 ½.
- Investors have to pay fees for switching to a different investment.
- There are also expense risk fees and administrative fees that investors have to pay the insurance company.
- Add-on features come with their own fees.
Do Variable Annuity Benefits Really Offer Benefits?
Variable annuity fees often outweigh their benefits. The SEC cautions that investors might be able to find similar benefits elsewhere for cheaper. For instance, IRAs and 401(k) plans also offer tax-deferred savings.
Investors can, for example, add a guaranteed minimum income benefit. But the SEC urges investors to consider the financial health of the insurance company that issues their variable annuity. In spite of the word “guaranteed,” struggling insurance companies can’t always pay a guaranteed income if the fund’s value decreases. And the funds can easily decrease, thanks to the many fees associated with their management.
Remember that adding benefits means adding fees. These can dramatically eat away at the value of a variable annuity over time and make it difficult for the investment to grow. Certified financial planner Michael Cortazo said in an interview with Kiplinger: “Out of 100 annuity contracts, fewer than a dozen work well.”
Bad Sales Tactics
In 2014, one lawyer told The Wall Street Journal that brokers “will stand up in front of a room and sell what they tell people are tax-free, high income, you-can’t-lose-your-money investments…That’s the shtick.” Unfortunately, that claim just isn’t true, and it’s actually pretty easy to lose money. FINRA underlined this point with their article, “Variable Annuities: Beyond the Hard Sell.” This article highlights the fact that some brokers have misled their clients with claims that they can protect their assets using variable annuities, which isn’t necessarily true.
Disputes in BrokerCheck
Variable annuities offer high commissions for brokers, which should give investors pause. They’re also often simply too complicated to explain fully. Plenty of financial advisors have multiple client disputes that allege the advisor did not fully explain the associated fees. Plenty of investors believe they were simply misled.
- Broker Eric Tom has three allegations from customers alleging that he did not fully explain a variable annuity — all three of which were denied by his firm.
- As of publication, Investment Advisor David Wilson has two pending disclosures on his BrokerCheck record related to variable annuities; one client alleges that he did not inform her of tax consequences, another alleges that Mr. Wilson provided false information in order to convince him to purchase a variable annuity.
- Broker David Sundberg has twice settled with clients over allegations that he denied a variable annuity would have tax consequences, leaving the client to find out that they would, in fact, owe taxes.
FINRA Fines Wells Fargo $2 Million Over Variable Annuities
Firms can also run into trouble when they fail to adequately supervise brokers’ maneuvers when it comes to their client’s annuities. In 2020, FINRA ordered Wells Fargo to pay $1.4 million in restitution to clients, plus interest, in addition to $675,000 in fines.
FINRA found that around 100 investors had incurred more fees than necessary when Wells Fargo representatives recommended that they switch to a different investment product, without informing the investor of the variable annuity surrender fees. Jess Hooper, the head of FINRA enforcement, said in a statement: “Firms must have a reasonable supervisory system in place to detect potentially unsuitable switches. Wells Fargo failed to meet this standard.”
Variable Annuities: They’re Not for Everyone
Accredited investment fiduciary Michael Stein told The Wall Street Journal that variable annuities best suit investors in relatively high tax brackets who have already maxed out their 401(k) plans. Experts suggest that investors can find the advantages they’re looking for in a variable annuity in safer investments that don’t require a doctorate in finance to understand.
If you have questions about your variable annuity, don’t hesitate to contact one of our securities attorneys at Fitapelli Kurta. For a free and confidential consultation, contact us at (877) 238-4175 or firstname.lastname@example.org.