Throughout this series, we’ve explored why annuities are often misunderstood, examined what happens under the hood, and discussed the different types of annuities available today. The goal has never been to label annuities as good or bad. Like any financial tool, their usefulness depends on the situation and how the insurance product is being used.
That leads us to the final part of the discussion: annuity triage.
When most people hear the word “triage,” they think of a medical professional determining the severity of a patient’s condition before deciding on the appropriate course of treatment. My wife works in the medical field, and one thing I’ve learned from her is that good care starts with understanding the problem before prescribing a solution. Financial planning/projections should work the same way.
Before recommending any financial product or path, we first need to understand the problem and the bigger picture.
A Tool, Not a Philosophy
At LeConte Wealth, annuities are still a tool in the toolbox, but they simply are NOT the first tool we reach for.
One of my mentors often reminds me that there is always a cost associated with reducing risk. In investing, that cost often comes in the form of reduced growth potential, less flexibility, or higher expenses. That does not make annuities bad. It simply means investors should understand the tradeoffs before deciding whether the protection is worth the cost.
One of my responsibilities at LeConte Wealth is reviewing existing annuity contracts owned by current and prospective clients.
Sometimes those contracts are doing exactly what they were designed to do. Other times, the product has become far more complicated than the problem it was originally intended to solve.
Our goal in examining these products is to determine whether the contract is solving the problem it was purchased to solve and whether there are alternative, often less expensive, ways to accomplish the same objective.
When conducting an annuity review, we typically ask five questions:
- What problem was this annuity intended to solve?
- Does that problem still exist today?
- What is the true cost of the solution?
- Which benefits are actually being used?
- If we were starting over today, would we make the same recommendation?
Looking Beyond the Product
One of the most common misconceptions in retirement planning is that guaranteed income can only be achieved by purchasing an annuity.
In reality, there are multiple ways to generate income and manage risk in retirement.
For example, a professionally managed individual bond portfolio can provide income while allowing investors to maintain ownership and control of their assets. Unlike many annuity contracts, bonds have defined maturity dates and may return principal at maturity, assuming the issuer remains financially sound.
One aspect of annuities that is rarely explained is how insurance companies are able to make these income guarantees in the first place. The answer is not magic. Life insurance companies are among the largest bond investors in the world, holding trillions of dollars in fixed income investments that generate predictable interest payments. Those bond portfolios, combined with actuarial projections and the pooling of longevity risk across thousands of policyholders, allow insurers to provide guarantees that would be difficult for most individual investors to create on their own.
Understanding where those guarantees come from does not make an annuity automatically right or wrong. It simply explains why the guarantees exist and why they often come with higher costs and tradeoffs.
Earlier in my career, I worked on the product side of the financial industry. That experience gave me an appreciation for both the strengths and weaknesses of annuity contracts.
It also reinforced an important lesson. Products should support a financial plan, not become the financial plan. A fiduciary review begins by asking what problem needs to be solved. If an annuity is the most appropriate solution, we will say so. If a diversified portfolio, tax strategy, bond allocation, cash reserve strategy, or retirement income plan can accomplish the same objective more efficiently, we will recommend that instead.
The recommendation should always be driven by the client’s needs, not the compensation attached to the solution.
At the conclusion of this series, my opinion of annuities remains unchanged. They are tools. Some are useful. Some are expensive. Some solve important problems. Some create unnecessary complexity.
The question is not whether an annuity belongs in a financial plan. The question is whether it is the right tool for the job.
