How Do Annuity Fees work?
It's a question I hear regularly from clients. The short answer is that each annuity and annuity type have different fees or expenses. Keeping reading to find out more.
Up First: Fixed Annuities
I'll get right to the point - in general a fixed annuity doesn't have a fee! A fixed annuity is essentially a deal with an insurance company to trade time for money. Think of it in these terms: You let the insurance company use your money for a period of time, typically anywhere from 3 years to more than 10 years. In exchange for that they agree to pay you a specific interest rate. There is no fee or cost associated with these accounts unless you start adding on "riders" or additional features that have their own separate costs. As for the fixed annuity - be aware that there are penalties if you close the account or draw out more than is allowed by your contract during your initial term. While there can be penalties if you don't follow the agreed upon terms of your contract, there isn't a fee to have the account. Remember - a fee is something you pay to have the account, a penalty is something that is charged against you for specific transactions outside of your original agreement.
Next: Immediate Annuities
An immediate annuity is a transaction where you trade an asset for a specific income stream. So you are trading a pile of money (not literally a pile, but you get the point) for a regular (normally monthly) payment from the insurance company. These accounts have specific terms that determine how much money you get, how often you get it, and how long it continues. That being said - no fees on this account either. Because of the fact that you traded the asset to the insurance company you don't really have an account value for them to charge fees against - you have a regular monthly income stream. The downside to this type of account is that since you don't have the asset (the cash you invested) anymore, but a payment stream you can't really go back to the insurance company in the future and take extra withdrawals. These accounts can be beneficial to solve for a monthly income deficit in retirement, but that's another topic for another day. As it pertains to immediate annuities (often referred to as a Single Premium Immediate Annuity) there are no fees.
Finally: Variable Annuities
Two annuity types down and no annuity fees yet. What gives? Well here we go - now we're on to Variable Annuities. This is where the fees are. When you hear someone say "Annuities are expensive" this is normally the type they are talking about, because this is the type where the fees reside. So what are they? First up is an M&E charge, which stands for a Mortality and Expense charge. These range depending on the contract but normally fall somewhere in the 1-1.5% range annually. You won't typically see this fee as a line item on your statement, but it is being assessed against the returns of your account. The short version is - on a variable annuity you're paying it, whether you see it or not. The second fee on a Variable annuity is an administrative charge. Normally this is a flat dollar amount associated with having the account. Next up are sub account fees. On a variable annuity the funds are invested in sub accounts which determine how the money is invested as well as dictating how they will perform. Because these sub accounts are normally held with outside providers (often times mutual fund families) they have their own management fees. These can vary widely depending on what type of account it is and what their investment strategy is. I've seen them run anywhere from .25% per year to 2+% per year. When you start adding all of these up they can top 3% per year in total cost. That is certainly more expensive than most "normal" investment accounts. That's okay - remember cost is what you pay and value is what you get. In the right circumstance, and for the right person a Variable Annuity can be a valuable part of their financial plan even if the cost is higher than other accounts. That being said - they certainly aren't for everyone, and you should be aware of both the positives and the negatives of an account like this before investing your money.
*The guarantee of the annuity is backed by the claims paying ability of the issuing insurance company.
*Although it is possible to have guaranteed income for life with a fixed annuity, there is no assurance that this income will keep up with inflation. There is a surrender charge imposed generally during the first 5 to 7 years or during the rate guarantee period.
*There is a surrender charge imposed generally during the first 5 to 7 years that you own the contract. Withdrawals prior to age 59 ½ may result in a 10% IRS tax penalty, in addition to any ordinary income tax. The guarantee of the annuity is backed by the financial strength of the underlying insurance company. Investment sub-account values will fluctuate with changes in market conditions.
*Investors should consider the investment objectives, risks and charges and expenses of the variable annuity carefully before investing. An investment in a variable annuity involves investment risk, including possible loss of principal. Variable annuities are designed for long-term investing. The contract, when redeemed, may be worth more or less than the total amount invested. Variable annuities are subject to insurance-related charges including mortality and expense charges, administrative fees, and the expenses associated with the underlying sub-accounts. The prospectus contains this and other information about the variable annuity. Contact Antonio Cibella at 216-642-1099 to obtain a prospectus, which should be read carefully before investing or sending money.
So what does it mean for you?
Find out how your investment account will work before signing up for something. Don't just take something at face value, ask for the specifics before you make a commitment. Once you have that information you can weigh out the pros and cons of the investment vehicle and decide whether it would be beneficial for you. Finally - if you have questions about this, or maybe about an annuity contract that you already have and are unsure about - get in touch. Strangely enough we love to talk to folks about this stuff! Give us a ring or drop a line and we'll see what we can do to help!