By Tom Henske
InsuranceNewsNet Magazine, April 2012
The score of a golf game isn’t necessarily affected by the type of club that’s used—but rather by how the player swings it. The same can be said about developing a client’s portfolio. Let’s consider a variable annuity as the “club.” There are many parts needed to ensure a hole-in-one financial plan, and an annuity is just one small part.
Three Suitability Factors
The three most important factors when evaluating a client’s suitability for an annuity product are their age, health and risk tolerance. Older clients may find variable annuities to be an appropriate tool to achieve their retirement goals because of the assurance many of them offer. For example, a 65-year-old can be invested in a balanced portfolio which guarantees a 5 percent withdrawal rate for life. This is justified by paying 3 percent in annual cost.
The same 3 percent, however, does not make sense for a 35-year-old to incur because they’ll have many more years in the market. Annuities generally work best the longer you live, based on either annuitization or a specific, guaranteed payout percentage for life. This is why annuities do not make sense if you believe the client’s life expectancy will be shortened for any health reason. Risk tolerance is also a factor, as each investor has a varying level of apprehension.
If you determine a prospect to be an ideal candidate for an annuity product, start the conversation by describing the worst case scenario—give the guarantee as an example. You can illustrate this by saying, “Mr. Client, when you’re 65, if your company could provide you with X amount of income—guaranteed for life—would this be something you would be interested in discussing?” They’ll likely chuckle and say, “Umm… yes!”
Worth the Risk
As advisors, we know a variable annuity is not an inexpensive proposition, but the cost is only relevant in the absence of value. Your client has to be concerned about outliving their resources and investing in equities. The price for effective annuity products are worth the risk mitigation they provide. For example, for a 3 percent annual fee, one insurance company offers a variable annuity product guaranteeing the initial value invested will at least double in 20 years (3.6 percent rate of return). Should the market perform well, the annual rate of return will still depend on the portfolio performance, but the net has to be higher than 3.6 percent.
Today, the human body has the capacity to live well past 100, which is concerning to many of our clients. The longer a person lives, the more resources they will need, which increases the likelihood they’ll run out of money. No one aspires to run out of income, but annuities with guaranteed lifetime payouts, guard against this longevity risk. When the stock market took a drastic decline in 2008 and 2009, it was because people were selling. It is very difficult to talk a person “off the ledge” when they see the value of their portfolio cut in half. Few who held variable annuities with guarantees sold out of the market, and people with guaranteed riders got the benefit of the market rebound—which is important to tell your skeptical clients.
There are no other products that give you the upside of market participation, downside protection and a favorable tax treatment for a relatively small investment.
Variable annuities allow investors who tend to be risk-averse to be more aggressive in their asset allocation. For example, if an investor without an annuity typically felt comfortable with an investment portfolio with 60 percent in equities and 40 percent in fixed income, they might be willing to increase equity exposure if it resided inside of a variable annuity with a guarantee rider. The long-term benefits of this strategy could be significant over an extended period of time, allowing their retirement nest egg to last longer.
Tom Henske, ChFC, CLU, CLTC, CFS, is the founder of Henske Advisors. He is now one of seven partners nationwide for Lenox Advisors, a wholly owned subsidiary of NFP. He is a 10-year member of the Million Dollar Round Table (MDRT) and has two Court of the Table qualifications. He can be reached at [email protected]
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