This article is reprinted with permission from Esq. Wealth Management, Inc.
This article was inspired by a recent experience with a new client who is over 70 and is already retired. EsqWealth helped him increase his guaranteed lifetime monthly payments by thousands of dollars by exchanging an outdated annuity into a much more beneficial annuity at no cost to the client. The added income and the new strategy will help him keep up with, if not exceed, the pace of inflation.
As interest rates surge to their highest levels in decades, the time is ripe for individuals to reevaluate their financial strategies and explore the potential of annuities in their comprehensive financial plans. At a recent conference on annuities, I was reminded of the significant role these financial instruments can play, especially for those with older annuities. An enticing offer of a five-year fixed annuity with a guaranteed interest rate of 6.15% made waves, underscoring the changing landscape. Of course, that rate may not be around for long. Additionally, the emergence of fixed index annuities with uncapped strategies add to the allure of these investments.
The Benefits of Annuities in Your Portfolio:
At EsqWealth, we emphasize the importance of having a comprehensive financial plan that covers all aspects of your financial life. While annuities may not fit in every client’s plan, for some (including myself) annuities can provide a powerful financial tool as one of the many asset buckets in a well-diversified portfolio. They offer a range of benefits that can help secure your financial future. First and foremost, annuities provide tax-deferred growth. As your investment grows within the annuity, you won’t be subject to annual capital gains taxes, allowing your money to compound more rapidly. Additionally, they also offer the benefit of deferred taxes. Thus, you only pay taxes on your gains when you withdraw the funds, potentially reducing your overall tax burden.
One of the most compelling advantages of annuities is that many are guaranteed not to lose money. Unlike many other assets in your retirement portfolio, which are susceptible to market risks and volatility, annuities provide a safe haven for a portion of your assets. With annuities, your principal is secure, and they may allow you to trigger income for the rest of your life. This security becomes especially important as you transition from wealth accumulation to retirement income distribution. In addition, one of the often-overlooked advantages of annuities is the guarantee that every year, your gains are locked in, and you can never lose them. Let’s say you start with a million dollars, and after one year, you have $100,000 in gains. These gains are not subject to market fluctuations. They’re securely locked in, providing you with a stable foundation for your financial future.
Unlocking the Power of Annuities: A Real-Life Example
To shed light on the benefits and intricacies of annuities, consider a recent client encounter at EsqWealth. This individual held two annuities, each with unique terms that had a profound impact on the client’s financial future. The first annuity was renewed in the most recent year with an annual point-to-point cap of 2.5% and a 7% annual point-to-point spread (meaning the first 7% does not get counted). These numbers significantly hindered any gains in the portfolio and the client was unaware of them.
Presumably in 2016, when the annuity started, the details were more favorable. However, for 2023 the 7% spread was added to the contract terms and the client was not informed or was not aware of its impact. Thus, if the index on which the underlying principle’s growth was tied was up 20%, the client’s return would first be reduced by 7% and then his total upside was capped by 2.5%. The terms of this annuity were so unfavorable that over the past seven years he held it, he only averaged a shockingly low 3.11% average return on the principal. Thus, while it may have been guaranteed to not go down in value, the minimal gains did not even keep up with inflation. This missed opportunity was particularly painful when you consider that in years when the market was up, an uncapped strategy might have delivered over 20% in gains.
Here, we see how understanding the terms and costs of your annuity is essential.
Rethinking Your Annuity Strategy
In light of the ever-changing financial landscape and the promising opportunities in the annuity market, it’s essential for individuals to reevaluate their annuity policies. For those with annuities that are three or more years old, a 1035 exchange might be a wise move, especially given the rising interest rates and new offerings in the market.
Moreover, the availability of fixed index annuities with uncapped rates opens up new possibilities for wealth accumulation. These products offer a chance to participate more fully in the market’s growth without the constraints of annual caps and excessive spreads.
While annuities may not be for everyone, they can be a valuable addition to your financial plan, providing security and growth potential. At EsqWealth, we’re here to guide you through the complexities of the financial markets and various options (including the annuity landscape) to help you make informed decisions that align with your financial goals and aspirations. Don’t miss out on opportunities like the one our client encountered—take charge of your financial future today.
The information above is not intended to and should not be construed as specific advice or recommendations for any individual. The opinions voiced are for general information only and are not intended to provide, and should not be relied on for tax, legal, or accounting advice. To discuss specific recommendations for any unique situation, please feel free to contact us.