2015 is the Chinese year of the Goat – I’ve decided that I’ll just make it the year of the “G’s.”
That’s right, “G”etting things and “G”etting rid of things are a few “G’s” I’m focusing on in 2015.
If you insist on it being the year of the Goat, however, I can play along. But if you have one (a goat that is) and it’s not producing milk, cheese or meat, it should be GONE (yet another G).
Oddly enough, I secretly do want to add goats to my life in 2015 (the family LOVES chevre!), but I digress…
Goats eat everything in site, right? Herein lies the punchline: The annuity you’ve been ignoring all these years is eating into your hard earned retirement dollars with excessive fees and expenses.
That’s right – it’s eating up your hard earned retirement dollars in fees and expenses that most likely you don’t know about AND for “benefits” that you probably aren’t benefitting from.
So why are annuities, on average, charging investors double what they would pay in non-annuity investments like ETF’s or the less favorite, mutual funds (you don’t want to own these either)?
Two reasons (and chances are you don’t need either of benefits you’re paying for) – annuities basically charge investors twice as much as your typical mutual fund in order to:
- Offer you tax deferred growth
- Offer some form of guaranteed income or guaranteed rate of return
So, again, for tax deferred growth and for a guarantee of some sort.
Let’s go over some of the problems most investors run into with those two annuity “benefits”:
You don’t need to “double up” on tax deferred growth.
If you own a “Qualified Annuity” (a fancy way of referring to an IRA in an annuity), go the way of the goat – get rid of it. Why pay these added fees and expenses to pay for tax deferred growth, when your IRA is already tax deferred, for free, thanks to the IRS?
This is an easy one, since you’ll have no tax ramifications of rolling over your Qualified Annuity to an IRA, and you’ll cut your costs in half. Get rid of it!
The guarantee isn’t all that it seems.
Read the fine print – if you do, you’ll find 101 other reasons to not invest in annuities. The best of which is if an investment product is this darn complicated and you don’t understand how it works, you shouldn’t invest in it.
But if you do in fact read the fine print, you’ll find that while the annuity may be guaranteeing you a hefty 7% rate, and you’ll see that after your fees of 3% per year, you’re simply robbing Peter to pay Paul. Would the net rate of 4% get you excited? Does this “net” rate meet your retirement needs? Then perhaps you should Get it, versus Get rid of it.
You’re in a high tax bracket, now, but what about later?
If you’re being sold an annuity because you want to defer taxes on investments today and you’re maxed out in your 401k and profit sharing contributions, an annuity may make sense.
But think about it – when you’re 60 and dipping into the annuity, will your tax bracket be below that of capital gains tax rates, currently 15% on long-term gains? Most likely not.
All withdrawals will be taxed at ordinary income tax rates. Let’s face it – if you’re in a bracket that warrants deferring taxes, you’ll most likely have a problem later with being in a high income tax bracket. This will mean that the distributions will be taxed much higher than that of the long-term capital gains rate of 15%.
So if you expect a very low income tax rate at retirement, perhaps you Get it. However, if your rate is likely to be over 15-20%, get GONE.
Here’s some great Motley Fool annuity math:
“Assume you are a long-term, buy-and-hold investor who wishes to invest $20,000 in either a taxable S&P 500 index fund or a similar S&P 500 index subaccount with identical expenses within a tax-deferred variable annuity. Assume the investment in either option will earn an average annual return of 11.2%, of which 4.5% comes from dividends. In the taxable account, you will pay income taxes on dividends as received. The annuity will impose an M&E charge of 1.15% each year. Which investment will give you the most money after taxes at the end of 20 years?
After paying income taxes at a marginal rate of 28% on your annual dividends, the taxable account would have a net annual return of about 9.9%. At the end of 20 years, the investment would have grown to $132,125. Your long-term capital gain would be $112,125 taxable at 20%. After paying your tax of $22,425, you would be left with a total of $109,700.
The annuity would have a net annual return of 10.05% after the M&E charge (11.2% — 1.15%). At the end of 20 years the investment would grow to $135,778, or some $3,600 more than the taxable account. Your gain would be $115,778. All of that gain, though, is taxable at ordinary rates. If taxed at a marginal rate of 28%, your tax bill would be $32,418. That means you would net $103,360, or about $6,300 less than that of the taxable account.”
Are annuities wrong for everyone? No. But most likely you should go the way of the goat and be gone. Ask a fee only advisor to review your annuity and “G”et an opinion worth keeping.
What are your “G’s” for 2015?