The variable annuity is one of the insurance industry's most popular products. Insurers and brokers have long pitched variable annuities as a retirement-savings vehicle for people who max out their 401(k)s or IRAs. At the end of 2013, the total amount U.S. investors had placed in variable annuities was an astounding $1.8 trillion.
A variable annuity combines a death benefit and mutual-fund investing. But what your life insurance agent or financial advisor may not tell you is that they receive large commissions for selling them, giving them a significant financial interest in the sale. Additionally, annual expense ratios for variable annuities can reach as high as 3% of the invested assets. This means that you need to achieve an annual return of 3% just to break even. That is far more than most people would pay in a traditional retirement plan or mutual fund. That is a lot to pay for an insurance component that many people do not even need, or much more expensive than a term life insurance alternative.
Variable annuity contracts are also very difficult to understand and most advisors who sell them and consumers who buy them don't understand the complexities. Just try to read the annuity contract before you buy it – it's mind boggling. My view is that you should never buy something you don't understand.
There is more. Investors who withdraw money earlier than they had planned often face high surrender charges. Withdrawals from an annuity during the first ten years of the contract can be assessed fees of as high as eight percent, or even higher. And some savers who have begun living off the investments from variable annuities have complained their tax bills on the withdrawals were higher than they expected.
Variable annuities are often riddled with opaque terms and conditions, high annual fees, hefty surrender charges, and illusory tax benefits. Many investors find out too late that that they would have been much better served if their financial advisor had steered them toward other, more transparent, lower-cost investment alternatives.
