Now Is the Time to Help Consumers Evaluate Annuity Choices
Contrary
to what you may have read in the financial press, tax-deferred
annuities are far from dead. According to LIMRA, fixed and
variable annuities raked in U.S. premiums of $184 billion in
2001, and are on pace for similar results this year.
Ask
financial professionals how the tax-deferred annuity market has
changed, and you hear two answers:
- Sales
have shifted from "new money" to exchanges of older
annuities.
- Banks
are the new competition.
Banks
are especially active in the fixed annuity market, which has
surged back to life with the stock market’s decline. According
to the Kehrer Report, banks wrote $8.9 billion of fixed annuity
premium in the first quarter of 2002, up from $5.0 billion in
the first quarter of 2001. This year, about 40% of all fixed
annuity premiums in the U.S. will flow through banks, Kehrer
data indicates.
Why
Banks Are Gaining
Why are banks gaining market share? Two words hold the answer:
"rates" and "bonuses." As interest rates have declined,
the gap between CD and fixed annuity rates has widened.
According to Kehrer, bank customers can earn "base" fixed
annuity rates that average about 2.5% more than CD rates. When
banks add "bonuses" often credited on exchanges of older
contracts (or CD rollovers), the yield gap increases to 3.5%.
Remember
that banks have access to just about every financial consumer,
including your clients and prospects. If a bank succeeds in
capturing your clients’ money with a "bonus rate" fixed
annuity, you won’t soon regain those assets.
So,
what’s a smart sales approach in today’s annuity market? It
has three parts:
- Reach
prospects and clients before the banks do.
- Educate
them on "bonuses" and their costs.
- Educate
them on all their choices, and offer objective advice in
evaluating them.
The
Catch in Bonuses
A typical bonus offer goes like this: "Mr. or Mrs. Client, if
you put $10,000 into our annuity today, we’ll start your
account with $10,200. We’ll add a $200 (2%) bonus to make you
feel great about the decision."
But
of course, there’s a catch. Bonus contracts usually give the
insurance company a way of earning back the bonus in higher fees
-- either the contingent deferred sales charge or the mortality
and expense risk charge (or both).
The
Securities and Exchange Commission (SEC) has specifically
targeted bonuses as one area in which "caveat emptor"
applies in annuity sales practices. Specifically, they have
advised consumers that "bonus credits may carry a downside--
higher expenses that can outweigh the benefit of the bonus
credit offered."
Since
the SEC only regulates variable annuities, not fixed, it has
issued this warning in an online consumer brochure called Variable
Annuities: What You Should Know. Your clients can read the
entire brochure online at http://www.sec.gov/investor/pubs/varannty.htm.
Why
shouldn’t you be the educator who calls their attention to
this important consumer information about how to buy annuities?
A Better
Choice for Many Buyers
The truth is that many people
the banks are luring into fixed annuities shouldn’t be buying
these products at all. Why not? They have a better choice that
offers more choices -- and that is today’s
"new-generation" variable annuity (VA).
In
these VAs, the buyer gets all the benefits of a fixed annuity
through a fixed account choice that guarantees principal and
rate. But the client and financial advisor also have many other
options. They include investment options, retirement income (annuitization)
options, and ways to take risk now while protecting retirement
income later (i.e., a guarantee minimum income benefits). Some
new VAs offer better guaranteed-rate choices than most fixed
annuities.
The
best new VA designs allow clients and their advisors to work
together in crafting customized programs that meet personal
needs. To illustrate, let’s use a new-generation VA contract
issued by Nationwide called America’s Future Annuity in their
Best of America series.
- In
addition to a fixed account, the contract offers
"Guaranteed Term Options" in which principal and
interest rate are guaranteed for a period of years (up to 10
in some states).
- Two
guaranteed minimum income benefit options are available, at
add-on costs to the mortality and expense risk charge. If an
option is chosen, the future stream of retirement income
(annuity payments) has a floor, even if investment
experience is poor.
- An
optional dollar cost averaging program allows amounts to
systematically move from the fixed account into separate
account funds. This feature can help today’s scared
investors regain confidence in the market gradually.
But
what about that pesky "bonus rate" the bank is dangling? The
contract addresses that by offering a choice called the "Extra
Value Option." For an additional asset-based charge of .45%,
Nationwide credits an extra 3% bonus to any deposits made during
the first 12 months.
In
effect, Nationwide and other innovative insurance companies have
"unbundled" the VA contract, giving clients flexibility to
choose which features they want based on cost-benefit analysis.
"You want a bonus? Fine, and here’s what it will cost
you." In effect, the new VA designs meet the SEC’s concerns
head-on by turning questionable annuity benefits into attractive
options supported by objective advice.
An
Important Role for You
In a few years, banks
have done a great job training thousands of tellers and
"platform people" to sell fixed annuities. But there is a
reason they haven’t had equal success with VAs -- namely,
today’s new-generation VAs require high-level professional
advice and analysis to help clients tailor programs to personal
needs. It takes in-depth client fact-finding plus a CLU or CFP
(or the equivalent) to understand and analyze all the options
embedded in today’s new VA contracts.
Here’s
another important option: New-generation VA contracts give
professionals the choice of receiving their compensation as
asset-based trails. If you’re moving away from commissions,
toward fee-based relationships, they will help you!
Don’t
let your clients and prospects reach for the ring of a bonus
rate that yields 2 to 3% more than their CD or current fixed
annuity. It’s a brass ring, not gold. Show them better and
more choices now.
How to Identify and Contact Plans With Deep Losses
On
one level, freeERISA.com gives you access to data and numbers
that you can file, sort and crunch. But on another level, our
site opens windows to human dramas all over your market. With a
little skill, you can look in these windows and see stories of
hope, success and growth.
And
there are times -- like now -- when you also can find stories
of loss and suffering.
For
hundreds of small plans in your market, freeERISA.com is now
showing the "early returns" of what has become a deep bear
market. In many cases, these returns represent plan years from
1/1/00 through 12/31/00, a period in which both the S&P 500
Index and Dow finished down a fraction over 10%.
Yet,
many plans lost more than the benchmarks in 2000. Here are a few
examples I uncovered in my community after just a few minutes on
freeERISA.com. (Numbers are rounded to avoid embarrassing a
specific company.)
- A
profit-sharing plan began 2000 with assets of $1.1 million
and added employer contributions of $180,000. But investment
losses totaled $220,000 -- 20% of assets.
- A
401(k) with a dozen active participants began the year with
$300,000 of assets and added participant deferrals of
$42,000. But investment losses totaled $50,000 -- more than
15% of assets.
- A
profit-sharing plan with $4 million in assets and six
participants suffered losses of more than $1 million. The
plan was formed in 1984, perhaps indicating an owner nearing
retirement. Another fact suggests even more pain -- namely,
new contributions during 2000 were less than $5,000, so
perhaps it was a down year for company profits, too.
As
you consider these vignettes, keep in mind that the bear market
had barely begun as of the 12/31/00 valuation date. From then
through September 2002, the S&P lost another 38%.
Two
Valid Questions
Are you convinced
that FreeERISA offers a window into real stories of frustration
and loss?
If
so, you’re perfectly justified in asking two questions:
- How
do you uncover these stories buried in FreeERISA data?
- What
good are they? How can you help plans reduce loss and
alleviate suffering?
How to
Find the Stories
Set aside an hour per day, a
couple of days per week. This is enough time to start looking
for plans in your market that offer opportunity. A good
technique is to search your market by one or more zip codes. If
you leave off the last digit in a FreeERISA zip code search,
you’ll retrieve companies in all zip codes beginning with the
remaining four digits -- which may cover a good part of your
market.
The
basic data you need is on two forms: The 5500 Annual Return and
the Schedule I Financial Information return filed by small
plans.
5500
Information
- Lines
1 and 2 tell you the name of the plan, the effective date it
was formed, address, and name of the plan administrator.
Line 7 provides information on the number of participants
(active, retired, terminated, etc.)
- Line
8 tells you the type of plan. A code of 2E indicates a
profit-sharing plan; 2G and 2H indicate a plan in which
participants direct their own accounts; 2F indicates a plan
that intends to qualify for the "safe harbor" of
regulation 404[c] by giving participants adequate investment
choices and education; 3E or 3F indicate prototype plans
provided by a vendor.
Schedule
I Information
This schedule is like an annual
profit/loss statement for the plan. Line 1 shows the plan assets
at beginning and end of the valuation period. Line 2a shows
contributions and Line 2c shows "other income." In most
small plans (especially prototype plans), assume that virtually
all "other income" represents investment gain or loss over
the valuation period. By comparing plan assets to other income,
you can estimate the percentage gain or loss. It’s also
important to note the relationship between plan assets and new
contributions, and whether contributions are coming mainly from
the employer or participants.
Assemble
the Story
After reviewing the 5500 and Schedule I, sit back and try to
form a picture of what the plan is experiencing. Plans that
emphasize concepts like diversification and asset allocation in
their participant education should not experience percentage
losses greater than the S&P 500’s. So, when you find
deeper losses, consider whether they indicate poor investment
choices or inadequate investment knowledge (or both).
Also,
by comparing a plan’s effective date with its assets, you can
form an estimate of how long participants have been accumulating
money. Many plans created participant enthusiasm during the bull
market of the late 90s. But what has happened to plans that have
suffered deep losses since? Are participants still looking at
the big picture of their retirement needs and goals -- or just
licking their wounds and resenting losses?
Posing
questions like these will help you consider not just the
numerical size of losses but also the nature of human problems a
plan may be facing.
Your
First Call
The book Twelve Steps to Your
Personal Success in the 401(k) and Small Plan Market makes
the case that plan conversion candidates are good prospects,
because they already have a base of assets and clearly defined
needs. But I also wrote that most conversion prospects need to
be dissatisfied with specific features of their current
plans before they will listen to your ideas for change.
You
can uncover many dissatisfied conversion prospects during a bear
market, but only if you: 1) take the time to understand the real
problems behind poor investment performance; and 2) address the
business owner’s most critical concerns regarding the impact
of losses.
Real
problems and critical concerns can include:
- Lower
participant morale and deferrals rates.
- Participant
complaints, low morale, lawsuits or challenges to 404[c]
qualification.
- An
investment menu that is too risky or complex for the
knowledge level of participants.
- Worries
that participant education is misguided or inadequate.
- The
owner’s personal losses and the impact on his/her
retirement planning.
- High
investment fees that reduce performance (and hurt worse in a
bear market).
- Paralysis
in making necessary changes.
Be a
Counselor
Now is the time to identify the
"bad news" stories in your market and then get on the phone
personally with owners. Don’t assume difficulties exist, even
if freeERISA.com returns show deep losses. Instead ask probing
questions that help you identify real problems and critical
concerns. Then, motivate owners to take positive steps to
increase morale and address specific problems.
Where
plans in your market have lost a third or more of their assets
in the bear market, your role is akin to a financial grief
counselor. Don’t be in a hurry to propose specific remedies
until you have proven that you are willing to listen
sympathetically and objectively. Help owners and participants
accept losses, while moving forward to take advantage of new
realities and future opportunities. Offer consolation, hope and
guidance that helps owners avoid repeating past mistakes.
Here
are a few probes that may help you break the ice with plan
conversion candidates:
- What
information do you wish participants had been given, before
the bear market began?
- Do
your participants feel that they have been given enough
information about why account values declined and options
for managing risk?
- How
have you (the owner) had to adjust your personal planning
because of performance?
- What
complaints have you received about the plan? How do you feel
about them? What actions have you taken to address them?
- If
you assume that markets may not improve in the near future,
what could you do to make yourself and other participants
feel more positive about the plan?
- Does
your plan mean as much to your company and its workers today
as it did when markets were higher?
Your
first call to a plan that has experienced deep losses is
critical. Your goal in this call is to leave the impression that
you are can work closely with the company to lift burdens and
brighten the future -- through personal caring, professional
evaluation and informed decision-making.
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