Barron’s Top 50 Annuities for 2016
June 25, 2016 by Karen Hube
Annuities are about to get a makeover with new rules, low interest rates, and longer lives. Our annual ranking will point you to the best choices.
By KAREN HUBE
June 25, 2016
Illo: Michael Sloan for Barron’s
America’s 50 Best Annuities: Guaranteed Income for Life
The $2.7 trillion annuity industry’s latest golden child is the fixed-indexed annuity—but don’t be fooled by its luster. Concerns about misleading sales pitches for these and other commission-based products have prompted new regulations to protect investors. But keep your guard up: The new rules aren’t fully effective until 2018, and the industry is fighting them mightily.
Fixed-indexed annuities protect principal and guarantee a minimum interest rate, about 1%. Bigger payouts can be had if the performance of the index the annuity is tied to (such as the Standard & Poor’s 500) rises enough. But while fixed-indexed annuities are often billed as investments with market-like returns, the reality is that they are alternatives to certificates of deposit, bonds, or other fixed-income products, with returns whose upside potential these days is capped at 3% or 4%.
The upside potential for the person selling the annuity is huge, however. Commissions can be as high as 14%, and incentives such as island getaways, tickets to sporting events, and other gifts are the norm. “Some agents pick the one that if they sell enough of it, they’re going to go to Bora Bora to drink for free,” says Stan Haithcock, an annuity sales agent based in Ponte Vedra Beach, Fla., who analyzes annuities for financial-advisory firms. “It’s tragic. This is a good product that’s being sold improperly.”
A new Labor Department rule aims to fix that. The rule requires anyone selling fixed-indexed and variable annuities in a retirement account to assume a fiduciary role—in other words, they need to act in a client’s best interest. Right now, “if you want to sell a fixed-indexed annuity, you can take a crash course on Thursday, pass it on Friday, have a chicken-dinner seminar on Saturday, and make your first sale on Monday,” says Haithcock.
WITH SUCH HAZARDS IN MIND, Barron’s compiled a list of 50 of the most competitive, top-rated annuities as of the start of this month. We looked for products with high payouts or rates and reasonable fees, based on assumptions about age, amount invested, and time periods. It’s important to note that annuities are extremely fickle products, and a change in assumptions can produce very different results. Insurers also change their offerings frequently.
Fees aside, the annuities landscape is being driven by other factors—such as interest rates and longevity projections.
Annuities have two basic functions: to accumulate assets on a tax-deferred basis (as with an individual retirement account, you can’t tap the assets without penalty until age 59½), or to turn a lump sum into a guaranteed lifelong income stream. They can have variable or fixed rates of return, principal protections, income guarantees, liquidity options, income for long-term care needs, and varying death benefits, along with other cogs and levers that impact their function and cost.
This year’s list reflects higher interest rates paid by fixed annuities, which invest premiums in bonds and guarantee interest rates for certain periods, much like certificates of deposit. The five- and seven-year guaranteed rates are slightly ahead of last year’s. For example, Midland National recently offered a 2.9% five-year rate on its Guarantee Ultimate 5 fixed annuity, compared with the best five-year rate a year ago of 2.6%. In contrast, the best rate on a five-year CD is 2%, according to Bankrate.com.
“When the Fed raised rates in December, most banks kept it for themselves, but some insurance carriers offered more-competitive rates,” says Jamie Cox, managing partner of Harris Financial Group. Given that the rates are still quite low, though, advisors recommend “laddering” annuities—as products mature, reinvesting the money into annuities with higher payouts.
For annuities paying guaranteed income, however, payouts have declined somewhat. Because insurers invest in bonds, “the single biggest raw ingredient that goes into what we can offer is interest rates,” says Dan Guilbert, executive vice president of the retirement division at Symetra Financial. With the 10-year Treasury down to 1.6% from 2.4% a year ago, the climate is bleak.
Another dark cloud: For the first time since 2000, the Society of Actuaries adjusted mortality tables in 2012, requiring insurers to put the new data into effect last year.
“The tables are used by regulators to determine what level of reserves a company should have,” says Dylan Huang, senior managing director and head of retail annuities at New York Life. “When the new tables were implemented, the annuity amounts decreased—the longer the life expectancy, the longer the insurer has to pay.”
Investors looking for guaranteed income have three main choices: an income annuity—the most basic option—or either a fixed-indexed or variable annuity with a lifetime income rider.
A variable annuity lets investors choose investments that are similar to mutual funds. These can be useful tools for tax-deferred investing when fees are low and contracts give you plenty of investment options (see the accompanying chart for competitive contracts). There’s no downside protection, though. Some come with guaranteed income riders, which should be sized up carefully.
These days, riders on fixed-indexed annuities appear more competitive than riders on variable annuities or income annuities. But a simple comparison of guaranteed income can be misleading—taxes must be considered. For all annuities funded with after-tax dollars, gains are taxed as income when they are withdrawn; principal is withdrawn tax-free. All the income from a rider on fixed-indexed or variable annuities is considered gain, until all gains have been paid out. But income annuities have a tax advantage: A large portion of the income is considered to be principal, and only a portion—exactly how much depends on your life expectancy and other factors—is taxable gain. All the income from a rider on fixed-indexed or variable annuities is considered gain, until all gains have been paid out.
“Income annuities do generally provide greater income; however, they do a bad job of balancing other objectives or investor desires,” says Judson Forner, director of investment marketing of ValMark Securities. With an income annuity, the insurer swallows your principal permanently, and your liquidity options are limited. Investors who want more liquidity should consider a lower after-tax income guarantee in a fixed-indexed or variable annuity.
Variable annuities with an income rider may be best for investors who believe that stocks will give them the biggest bang over the long term, but are willing to give up some upside in exchange for guaranteed income. Consider Jackson’s Perspective II variable annuity: Its Lifeguard Freedom 6 Net rider guarantees a minimum annual income of $16,000, which pales in comparison with the $21,500 annual income offered by Athene’s fixed-income annuity rider, Ascent 10 Bonus 2.0. In years of strong market performance, the Jackson rider will pay up to a more-comparable $20,268, while the underlying assets see bigger gains because they can be fully invested in stocks.
Guaranteed-income riders for fixed-indexed annuities are competitive, but tougher to parse. Investors are often led to believe that the internal rate used by the insurer to compute future income—which can be as high as 10%—is what they’re earning on their account value, says Andrew Murdoch, president of Somerset Wealth Strategies. These fuzzy details “lure people into a commission-based sale,” he says. “No insurance company is going to pay you 10% when Treasuries are yielding around 2%.”
ANOTHER TRADE-OFF that investors have to consider is whether to go with an annuity that pays the same level of income each year or one that guarantees rising payments. It isn’t the no-brainer it seems to be: It can take a decade before those rising payouts begin to pay off.
Consider the Allianz 222 fixed-indexed annuity, the industry’s top seller. For a 55-year-old investor who plans to draw income at age 65, a $200,000 initial investment will pay a total of $767,249 in income by age 95, more than $120,000 more than the top-paying contract whose payouts are unchanging.
But the payouts of the Allianz annuity start out much lower than the level-paying products. Allianz’s first-year payout is $16,127, compared with the $21,500 guaranteed per year by Athene’s Ascent 10 Bonus 2.0. It takes until age 85 for the Allianz rising-income product to catch up to Athene’s in terms of the total income paid out.
For investors with a genetic predisposition for longevity, this may make sense. For those who want higher income earlier in retirement, a level-paying product may be better.
It’s this kind of balancing of investor needs that the Labor Department rule requires annuity sellers to consider, Forner says. Annuities can have a place in a portfolio, but the work must be done to find the right fit.
