That would be a dream come true, wouldn’t it? To invest and know that you cannot lose your money or any part of it. But that would be only half the dream, the other half is to get a decent yield. After all, your money is safe in a bank, insured by FDIC, but so what? If it earns less than one percent interest, that’s not doing you much good. The goal is to have it both ways: to earn a decent yield and have your principal 100% guaranteed safe. There is only one investment vehicle that I know of that does both, and that is Fixed Indexed Annuities (FIAs).
But Why Would It Matter?
A friend of mine recently told me that he had lost his job. He’d been with that company for 25 years, and now, just 3 years before retiring, they laid him off. His chances of finding other employement are non-existent at his age, and he’s not fully vested in his retirement plan, and his health plan is now going to cost him a bundle. So he and his wife are in serious trouble. Yes, of course there is social security, but not yet. He has to survive a few more years before applying. Also, he had hoped to maximize his social security benefit by working to the very end, but now that possibility has disappeared he needs to file for benefits as soon as possible, so early filing is going to cost him dearly later on. It’s a mess, and all because of a layoff.
What my friend really needs now is his own pile of invested money (apart from company money) that grew substantually over the years that nobody can take away from him not his employer and not even a stock market crash. Then he would have been ready to face the unwelcome early retirement that is now being forced on him.
How secure are you in your job? I mean, really. Truth is, your job, which you may be absolutely dependent on, may not be so secure after all. It could, at any minute, just disappear 10 years from now, 5 years from now, maybe tomorrow. And if your income does disappear, your mortgage doesn’t disappear with it, so your house could soon become the next casuality.
We see then that retirement is not necessairly exiting the job market to live a life of luxury and play golf. It might be that, but for many people, it is exiting the job market at the worst possible time and when you can least afford it. Not by your choice, but because your company needs you gone.
So, what should you do? You should, of course, build your own retirement nest egg, so that when you retire or they retire you you can take care of yourself. They question then is: how?
Risk Versus Yield
Every investor wants two things: good yield and no risk. But those two goals are, of course, at odds with each other. In the real world, the better the yield, the greater the risk.
Sometimes we feel like Goldilocks looking at three bowls of porridge. Some investments are too hot (too risky like stocks), or too cold (yield almost nothing like banks), or, hopefully, something in the middle that’s just right, something with a decent yield but with no risk. Fixed Equity Annuities (FIAs) are like that middle bowl of porridge, not too hot, not too cold, but just right. Let’s consider the alternatives
It’s tempting to suppose that you can reduce risk by letting others, who are better at the stock-picking game than you are, make investment decisions for you. Mutual funds are a favorite way of enlisting experts to make those decisions. But the hard fact is that most mutual funds don’t do as well as the S&P 500, so really, nothing is gained. And further, down is still down, and if the market crashes, however you’re in the stock market, actively or passively, you crash with it. For active and passive investors, the stock market bowl is always pretty hot. Mutual Funds do not shield you from market crashes, they expose you to market crashes.
Bank Accounts and CDs
So maybe you should play it safe — forget the stock market and just save your money in the bank. True enough, your money will be guaranteed safe (a bunch of it anyway) in FDIC protected accounts. The problem is, however, that the interest is so low, why bother. It’s not even likely to keep up with inflation. And what interest you do earn, has to be taxed. So although you think you’re winning, you’re probably loosing.
Cash Value Life Insurance
Sooner or later some life insurance salesman will try to convince you that the best way to build a retirement is with life insurance. There are several problems with using life insurance as a retirement savings vehicle. The first is that its many fees are often more severe than you think and eat deeply into your cash value.
But an even worse problem, and the main problem, is rising mortality cost; that is, the cost of the insurance itself. As you get older, more and more of your premium goes to the rising insurance cost, then all the premium, then finally more than all the premium so that the premium no longer covers the cost. So then what does cover the cost? Your cash value. And thus your cash value, instead of growing, starts dropping.
The solution? When your cash value starts to drift dangerously down towards zero, your insurance company will tell you that you need to send more money to keep the policy alive.
But that’s not what an “investment” is supposed to do, is it? The intention was for them to send you money in your old age, not the other way around. You may even discover that the only way to keep your policy alive is to reduce the face amount substantially (like from $100,000 to $25,000) so that the policy does continue to end of life. Thats a very disturbing outcome but it happens all the time. Fact is, it is generally a mistake to co-mingle your investments with your insurance because each obscures the other.
And that brings us finally to
Annuities are unique investment vehicles underwritten only by life insurance companies. In some regards, annuities seem similar to life insurance, but actually they’re more like the exact opposite of life insurance. Life insurance is to protect you against dying too soon (running out of time), annuities are to protect you against living too long (running out of money).
What is unique about annuities is that they are the only investment vehicle that can guarantee that you cannot outlive its annuitized income stream. That is not true of mutual funds or bank accounts or any other investment vehicles; only annuities. In fact, that is the definition of an annuity.
There are other benefits to annuities. One benefit is that taxes are deferred. That’s a good thing but not unique to annuities qualified plans also offer tax deferment. However, if tax avoidence is your goal and not just tax deferral, that can be achieved by folding your annuity inside a Roth IRA. That way, if you do grow your annuity to, say, a million dollars, then when you’re ready to make withdrawals, it really is a million and not a million less a third for taxes, if you follow the Roth rules strickly. That is a subject you should discuss with your tax advisor.
Another benefit is that there are no contribution restrictions, which is not true of qualified plans.
But, finally, the really big benefit of one kind of annuity specifically FIAs is guaranteed protection from market loss.
Fixed Indexed Annuities (FIAs)
There are three types of annuities: (1) Fixed, (2) Variable, and (3) Fixed Indexed Annuities, or FIAs. We’re not so interested in the first two — fixed annuities are too much like bank savings accounts (too cold) and variable annuities expose you to all the risks of the stock market (too hot), so it’s the FIAs that we are interested in here.
With fixed indexed annuities (FIAs), you can get a decent yield without any market risk whatsoever. That is not an extravagant claim. That is true and guaranteed. FIAs are not cold, not hot, but mildly warm and just right for passive investors.
The perplexity has always been how do you get good yield without market risk? To avoid risk you generally have to settle for low yield as in a savings account, and to get a decent yield you generally have to expose your money to market risk. Neither of these satisfy passive investors who want some kind of decent yield without the threat of crashing companies and crashing markets.
To satisfy both requirements, the life insurance industry invented the Fixed Indexed Annuity (FIAs) which achieves a balance between the two extremes of risk and yield. Here is how FIAs typically work:
Through the year your account may flutter up and down like a mutual fund. But if at the end of the year the market has gone up and your FIA has made money, then that new higher balance becomes “locked in”; that is, your account can never drop below that amount. But if, on the other hand, at the end of the year the market has gone down, you lose nothing because your previous “locked in” amount is still your “locked in” amount even if the market crashes hard. The most you ever lose is nothing! Not a penny, ever! And that is the point of a fixed indexed annuity, to move ahead in good years and never fall back in bad years. It is the passive investor’s dream come true.
Now, there is a cost. Insurance companies can’t take all the risk, give you everything and keep nothing for themselves, or they’d go out of business. So you must be wondering, what’s the catch? Well, the catch is simple and it is usually this: If there is a cap on the bottom and there is: your yield can’t be less than zero then there must also a cap on the top and there is: your yield can’t go above some preset amount, say 5%, depending on the company and the product. And the difference between what the fund made and what you get to keep is the company’s profit.
But maybe you’re complaining, I don’t like that. I want it both ways, limited downside and unlimited upside. Sorry, there is no such thing. No company will give you everything and keep nothing. If they did, they wouldn’t be in business long. If you insist on unlimited upside then you must accept unlimited downside: be an active investor and expose yourself to the market for real. But if safety is your thing and you want limited downside, then Fixed Indexed Annuities, in spite of the capped upside, are the best thing out there. You will find nothing better.
Let’s do a simple calculation. Imagine that you have $100,000 in a mutual fund and another $100,000 in an FIA both indexed to the DOW. Now suppose that the DOW drops 50% this year then rises 50% next year. What do you end up with? In the mutual fund your $100,000 falls to $50,000 then grows back to $75,000. Well, that’s troubling. In the FIA, however, your $100,000 fell to...$100,000! That is, you lost nothing. It then pulled ahead and grew to $105,000 (the 5% cap). So, which would you rather have? $75,000 or $105,000? Well, that’s a no-brainer. It was Mark Twain who said, “I’m more interested in the return OF my money then the return ON my money.” That is exactly point and why Fixed Indexed Annuities exist.
But now, suppose you dig in your heals and insist on having it both ways: high yield and no risk. Well, you can do both, but just not with the same money. So maybe do this: Separate what you want from what you need. Suppose you want $2,000,000 at retirement. But if everything goes wrong, you need $500,000 for retirement. What do you do? Here’s what you can do: Take a hard look at your investment money and separate it into two piles: a what-I’m-willing-to-risk-to-get-rich pile, and a what-I-don’t-dare-risk pile. The first pile you put into your brokerage account and trade. You buy dividend stocks, or sell puts, or take advice from your latest guru newsletter, or whatever. Just get on with it and reach for that $2,000,000 but with the understanding of course that you could lose. That’s your risk. But the second pile, which you must not lose, you put into an FIA and leave it be. Let it grow towards that $500,000 that you know you’ll need and will have no matter what. Now that’s a sensible, balanced plan.
Like CDs, annuities use penalties to discourage early withdrawal. But that’s a good thing because the point is to save for retirement, not to withdraw on a whim to buy a boat. Typically the penalty period would span the first five or ten years with the penalty decreasing for example, 10% the first year, then 9% the second, then finally zero at the end of penalty period. But it depends on the particular policy. However, even during the penalty period, most annuities allow you to withdraw typically 10% without penalty for emergencies.
An annuity typically has two phases. The first is accumulation where you are contributing. But then there comes a moment (maybe when you retire, or get layed off) where you have to decide whether to “annuitize” this pile of money into a permanent, lifetime-lasting cash flow or not. You don’t have to, ever. You are free to withdraw your money whenever you please and trust yourself to grow it and not run out of money. But you can annuitize it if you choose; that is, you can exchange that pile of cash for a permanent income stream that is guaranteed to last the rest of your life. That is the one way you will be certain that your money will last until you are dead. Annuitizing is never a requirement, it’s only an option, but an important one. And that is why an annuity is an annuity and a mutual fund is not.
Deposits Versus Premiums
One reason that annuities are better than life insurance for investment purposes is that life insurance requires you to make a premium payment every month or that policy will likely lapse when there is insufficient money in the cash value to make those premium payments for you. To be sure, Universal Life (UL) allows you to adjust that payment like an adjustable mortgage payment. But ultimately, you must keep premium payments current or else. Or else what? Or else you may drain the cash value and when the cash value balance hits zero, the policy may lapse from lack of premiums. At that point, you not only have no investment, you also have no life insurance. This is another reason to not combine the two.
Annuities, on the other hand, have no such requirement, there is no required “payment.” In that regard, an annuity is more like a savings account. If you do not make a deposit into your savings account this month, would the bank manager yell at you, “you missed your deposit this month”? No, of course not. What you deposit into your account is your business and not the banks. Annuities are like that. Deposit what you want, when you want, otherwise, don’t bother. Nobody is chasing you for it, and it won’t lapse!
There is, however, one big caveat, and that is this: Most annuities require a minimum deposit of $10,000 and that places them beyond the reach of many young families who can’t stretch their budget that far. For many families, such a deposit is earth shaking, like paying off a car. Now some annuities have a minimum deposit of only $5000 which is more manageable but still out of reach for many families.
So, what to do? There is one company that I know of that has a minimum deposit of just $100! They are called “Slow Premium” annuities, and it’s obvious why. That low premium places this wonderful investment vehicle within the means of ordinary people, even small earning families. If it were less than $100, no real progress would be made, but $100 out of your paycheck each month is real progress towards a real retirement and it’s affordable!
Now, I expect that you want to know what company offers this wonderful product, an affordable fixed indexed annuity that can move you along to a meaningful retirement without any stock market risk whatsoever. Well, we will be happy to share that information with you and introduce you to that company. Just contact us and let us know that we’ve gotten your attention and that you want to speak with one of our agents in your local area. Just click the button below.