Robo-Advisor for Annuity Purchases?

The introduction of the robo-advisory programs have brought with them plenty of arguments about the effectiveness and acceptance longer term by investors. The good is the ability to manage your own money with the effective use of models built by scholars and rebalanced by computers taking the emotions out of the process, along with the decision making by investors. I set out to apply this same concept to simplify what has taken on an extreme complexity in the annuity world. What if we could build a simple equation or program for deciding on how to use annuities in the same format? For fun, I conducted some research on how annuities are marketed to the financial consumer. What I found was interesting, confusing, abusive, misleading, and in some cases down right lying. Regardless, it is a downright shame that a product that offers simple solutions to common financial challenges has been allowed to become complex in both their format and presentation. In an attempt to bring simple back to annuities let’s look at how they accomplish a future goal, what financial problems they solve, and what benefits they offer.

Let’s break this down into four primary benefits of owning an annuity.

1. Principle Protection – this can also be stated by saying that your principle is guaranteed. Similar to a U.S. Treasury bond, certificate of deposit, fixed annuity, etc. the principle is guaranteed by the issuing company. Any return or interest credited is equally guaranteed by the contract. Thus, one of the primary reasons to purchase, own, or invest in an annuity is principle protection. The level of importance of this feature is determined by you, your risk tolerance, and objective for the money you are depositing.

2. Guaranteed Income NOW – you exchange a lump sum of money in return for a periodic payment (generally monthly) for the remainder of your life (and your spouse if you chose), guaranteed, as you cannot outlive the payment. This simple annuity offers peace of mind and a transfer of risk to the issuing company. The alternative is to accept the responsibility and risk of investing my money in order to generate an income or periodic payment (not guaranteed). Thus, an annuity transfers the risk for guaranteed income now and for the remainder of my life.

3. Guaranteed Income Later – similar to above, with the primary difference being that you defer the periodic payment to a specific date in the future. The payment is guaranteed the same as in number two and you cannot outlive the payments. In both instances, you can extend this benefit to your spouse’s lifetime, guaranteed as well. The benefits of this type of planning are endless as you can define when you want the income to begin, you can ladder it over specific years to account for inflation, you can ladder income to account for long term care planning, and you can use it to defer the required minimum distribution from your IRA to age 85 (QLAC). This is equally a transfer of risk product as the issuing company guarantees you the deferred income and principle in the event of death.

4. Tax-deferral – an annuity benefits with the accumulation being tax-deferred until you take your income, or distribute the principle amount. If the annuity is a non-qualified contract (after-tax money) the income stream taxation is only applied to the amount above the original principle amount. In points two and three above, the taxable portion of the monthly income is prorated by the ratio of principle and interest. This is a benefit in retirement as it will help in potentially lowering your taxable income.

You can now determine if an annuity fits into your financial plan simply. In the planning process you determine the best course of action to take relative to saving, investing, gifting, estate transfer, income needs, healthcare, or any other objective. Does an annuity help you solve these financial problems, or offer a benefit that helps you achieve your financial goals and objectives? If you answer yes, you pursue matching up the appropriate contract to meet the goal. You simply buy the contract and let it achieve the goal the balance of your lifetime or for the specific time period you chose.

The benefits of annuities are straight forward when you focus on the original design of the products. It is only when agents or representatives attempt to make annuities a cure for anything and everything financial, that complexity is created. Annuities are not designed to meet every objective, and they were never designed as an investment, but rather a guaranteed transfer of risk asset for specific goals. They are not for everyone, but they do offer very specific benefits for those who understand their needs, goals, and objectives.

As with any financial decision, it all begins with knowing what you want. Then and only then can you determine the best course of action to achieve your financial objectives. The goal of is put the power of the decision process in your hands to meet your objectives not those of an agent.