Fixed-rate annuities are considered a very safe financial
investment. Variable annuities have a
greater degree of risk due to the type of investing involved. Statistically, individuals over 60 years of
age have traditionally been purchasing fixed annuities although variable
annuities are now being sold in record numbers.
Risk is no greater for a senior person than it would be for
someone of a lesser age. Even with a
variable annuity, risk is less than for stocks. According to Gordon Williamson, attorney, financial planner, and
branch manager of LPL Financial Services, holding just one stock is more than
six times as great a risk as a 100-stock variable annuity portfolio.
The most-stated reason senior
Americans reposition their assets into annuities are the safety they offer. In addition, other features appeal to the
retired individual. Growth is tax
deferred, which is an advantage when the money is not needed for day-to-day
living expenses. Principal is
guaranteed at all times and there are minimum interest rate guarantees. Current rates have generally been higher
than minimum guaranteed rates, although in recent years, with rates so low,
that has not always occurred. While
annuities may seem ho-hum to the younger ages, for senior Americans they offer
exactly what is desired: safety of principal, tax-deferred growth, professional
management, flexibility, partial free withdrawals without surrender penalties,
and the possibility if annuitized for lifetime income. The ability to invest a single lump sum is
also an advantage for senior Americans since they are often repositioning their
assets to annuities from other higher-risk investments.
There are services that rate how annuities are doing. The Variable Annuity Research and Data
Service (VARDS) Report is a monthly publication; an annual subscription costs
$698. They will provide a sample copy
at no cost (770-998-5186).
Another source is Lipper Analytical securities Corporation. The Lipper Variable Insurance Products
Performance Analysis Service provides figures on the performance of variable
annuities and variable life insurance products. They, too, will provide a sample copy of their reports
(212-393-1300). An annual subscription
costs $9,000.
Morningstar is perhaps the best-known variable annuity analytical
service. They publish the Variable
Annuity and Life Performance Report, which is $95 per single issue or $295 per
quarter. It is a 400-page publication
and covers about 5400 different sub-accounts.
Their number is 800-735-0700.
Obviously, at those prices, senior investors are not going to be
purchasing the publications, but they are often available at local libraries.
When investors have youth on their side, they are more likely to
invest in higher risk investments, such as stocks. While the risk is higher, they have time on their side so they
can handle the risk easier than a person who is retired, without opportunity to
make up their losses.
Younger individuals also may want to have a more tangible
investment than that offered by annuities.
Investing in stocks, real estate, or even a small business is something
the investor can enjoy, while hopefully also making a profit.
Most investing involves risk.
Even certificates of deposit involve risk inflation. If the savings earn too little, inflation
will erode all growth, perhaps even causing a loss. The goal of investing is relatively simple: make your money grow
faster than inflation and taxes. While the
goal is simple, the process may not be.
Investing itself is a simple process: an individual earns money and puts
it somewhere to earn interest growth.
Investing is the process of making choices (should I buy a new
television or a new stock?). Those who
sell material items are good at using words that sound good (Invest in a new
car). Most Americans fall into the
trap of spending rather than saving.
For those who do manage to save and invest it is important that their
efforts are rewarded.
Prior to retirement, money is often placed in vehicles that are
understandable, but not wise. The local
bank is one such place. Banks play an
important role in our financial lives, but they seldom are a good investment
choice. It is not unusual for people to
keep far more than they should in their checking account, where it earns little
or no interest. Any interest that is
earned is taxed taking away even that little bit of growth.
Certificates of deposit have an appropriate place in our lives,
but they are taxable vehicles. They are
not suitable for long-term investing aimed at retirement. The yearly tax placed on the growth of CDs
erodes the earning value they have.
The bottom line is simple: it doesnt matter how much is earned
during the working years if nothing is saved for retirement. Many high-earning individuals never manage
to save a dime, while modest earning individuals are able to save
routinely. Some people will always live
for today and ignore tomorrow.
Managing to save something for retirement is the first half of
the battle; the second half is managing to hang on to it. While faulty spending habits are by far the
greatest problem Americans have, understanding what to do with what they save runs
a close second. Todays consumer is
bombarded with financial advise from those who may be least qualified to give
it. Magazines, seminars, and radio
personalities all want to tell Americans what to do with their savings. Barbara Roper, the author of Consumer
Federation of Americas report on the financial planning industry stated that
85 percent of financial planners earn some or all of their income from
commissionable products. That means
they have a reason to recommend the products (income) and may not always be
working for the benefit of their clients.
There is a conflict of interest from the very beginning. Even fee-based planners may have a conflict
of interest. Why? If they recommend real estate or other items
that do not involve their management they are removing part of the assets they
earn fees from.
In the past many employers contributed to retirement plans and
handled the management of the funds through professional money management
firms. All the employee had to do was
make sure he set aside as much as was allowed from their paycheck. Today, more and more employees are being
required to take over the responsibility of their own retirement funds. Under 401(k) Plans, for example, employees
need to be educated about how much they need to save and how to invest it.
Most people who manage to retire with adequate retirement funds
did it through common sense practices; they spent reasonably, didnt try to
have everything in life immediately, avoided excessive debt, put money aside on
a regular consistent basis, and saved through vehicles they understood. They avoided get-rich-quick-schemes and made
sensible financial decisions.
Now that retirement is a reality, the senior American must make
decisions with a little different focus.
Prior to retirement, growth was the focus. Once retirement arrives, safety of principal is the focus since
the principal must be preserved. Most
want to be able to survive in a comfortable style on the interest growth the
principal generates.
What does all this mean?
During ones working years, growth is the financial focus, but during
retirement preservation of capital is the focus. That means safety of principal.
Our recent low interest rates have been devastating to many retired
Americans. It was impossible to live
totally from interest earnings as they dipped to historical lows. Safety is still a prime concern so annuities
will continue to be one financial vehicle that retired Americans will use.
Social Security benefits are meant to supplement retirement
savings. Many Americans will be
depending primarily on social security, however, because they failed to plan
appropriately themselves.
Retirement income is often compared to a three-legged stool
each leg is necessary or the stool will topple. One leg is Social Security income, one leg is pensions, and the
final leg is private savings. Each leg
is equally important to the stability of the stool, but the legs are not
necessarily equal in strength.
For most senior Americans, Social Security provides the bulk of
the income. This is not necessarily how
it should be, but its how it is.
Created as a result of the depression in the early 1900s, Americans
initially thought Social Security would support them in their retirement. As time passed, Americans realized this is
not realistic.
Social Security is financed by a payroll tax paid equally by
employees and employers. It has often
been thought that the tax we pay is for ourselves when we retire. In truth, the taxes currently paid are
supporting those currently receiving Social Security benefits. There is no account in each workers name
accruing income for retirement. Current workers support current retirees.
To qualify for Social Security benefits an individual must be
fully insured meaning at least 40 quarters of coverage must
exist. This equates into ten years of
employment that qualified under Social Security.
The Social Security Administration uses a wage-index factor to
adjust earnings for each year prior to age sixty. The adjustment increases earlier earnings to approximately their
current equivalent value. Only earnings up the wage base the maximum amount
of earnings each year on which each person must pay Social Security taxes are
counted. After age 60 earnings are not
indexed; actual earnings are used instead.
There are four types of benefits available under Social Security:
There are formulas for figuring out how much in actual dollars
one can expect to receive from Social Security during retirement. It would be easier to simply contact them
and receive a report, which will show the figure (800-772-1213).
Those who have not worked may still be eligible for Social
Security benefits based on their spouses earnings. When the spouse reaches age 65 he or she may draw approximately
half of the amount earned by their fully qualified spouse.
The Social Security Administration places a cap on the benefits
an individual may receive after retirement.
The maximum amount will vary depending upon the level of each persons
PIA, or primary insurance amount. The figure
varies from 150 to 188 percent of the PIA.
That is why it can be very important to place assets where they grow
tax-deferred.
Social Security Administrators view eligibility requirements for
Survivors benefits differently than they do retirement benefits. In order for a persons beneficiaries to receive
benefits from Social Security, the worker must be either fully insured or
currently insured by the program at the time of his or her death. Survivors benefits are also affected by the
number of eligible quarters in the workers history.
SS Disability
Benefits
It is very difficult to qualify for Social Security disability
benefits. The rules are strict and rigidly enforced. In order to qualify one must meet their definition of disabled:
have the inability to perform any substantial gainful work. The key word is substantial. The Social Security administration takes
into consideration such things as the persons age, their education and past
work experience when making this determination. The mental or physical impairment must also be expected to
continue for at least 12 months or must be considered to be a hazard to life
expectancy (possibly result in death).
There is a waiting period even if approval is granted. An individual must be disabled for a full
five months before any benefits will be paid.
According to a study conducted by the Employee Benefits Research
Institute how social security benefits will figure in depends upon the income
received. Those with annual incomes of
$25,000 or more will receive roughly 40 percent of personal income from
interest and dividends. Social Security
will supply 21 of retirement income for people sixty-five and older. Pensions will supply 17 percent of income.
Those with incomes of $12,000 to $25,000 annually will rely more
heavily on Social Security benefits. In
these families, Social Security will supply 48 percent of personal income with
interest and dividends supplying 22 percent.
Pensions will supply 20 percent of their income.
Many elderly households will continue to receive income from
working. Those with incomes of $23,000
or more will receive an additional 20 percent from employment. We have seen a rising number of retired
Americans returning to work in some form.
It seems to be playing an increasingly important role in the lives of
those 65 and older. There are two
reasons, reports Sylvia Porter, a financial analyst: first fewer people have
earned adequate retirement pensions from previous employers, and second Social
Security was relied on too heavily and it hasnt proven to be adequate.
Most Americans assume they will receive enough money to live on
in retirement even if they havent personally planned financially. According to Consumer Reports, pension plans
provide some amount of retirement income for only about 27 percent of those who
are 65 years old or older. That is not
to say it provides adequately. All too
often, the pensions received fall far short of adequate. This figure does not include those who
received a pension cash-out at retirement.
Approximately 73 percent did receive some type of cash distribution at
retirement, which was then reinvested (hopefully) into another type of
financial vehicle.
Pension benefits come from all employee plans that defer income
or provide payments after retirement.
An employer pension plan is most likely to be a qualified plan. They are tax-deferred and meet all
government requirements. Personal
retirement plans are likely to be non-qualified. They may also be tax-deferred, but they do not have to meet
government requirements for pension plans.
A pension is either a defined benefit plan or a defined
contribution plan. A defined benefit
plan is like a fixed-rate annuity because the amount of the benefit is known. A defined contribution plan is like a
variable annuity because the benefit is not known, but the contribution is a
set amount. The benefit will depend
upon the performance of the investments.
When the approximately 73 percent of Americans received their
pension distribution in a lump sum those who were wise reinvested the funds for
their retirement support. Many of those
will have invested in vehicles they consider to be safe and secure from unnecessary
investment risk. All investments carry
some amount of risk, if only from inflation (loss of buying power). Annuities have often been the investment of
choice.
There was a time when Americans could count on continuing their
health insurance from their employer.
That is seldom possible today.
In addition, retirement brings health insurance needs that are unique to
the age group. The types of insurance
that retirement will require include a Medicare supplemental coverage if the
retiree is age 65 or more and long-term nursing home coverage (which may
include home health care as well).
There are ten standardized forms of Medicare supplements, labeled
Plan A through Plan J. Each of the ten
forms is the same, regardless of which state they are issued for. There are a couple of states that are unique
in that they have their forms.
California uses the ten standardized forms.
Medicare is a form of insurance, through the federal government,
that partially pays for hospitalization and for medical services, such as a
doctors care. A Medicare supplement
supplements Medicare, which means that each of the ten standardized forms is
designed to work with Medicare. If
Medicare totally denies a claim, so will the supplement unless it is for a specified
service, such as prescription drugs (offered in two of the ten plans).
Long-term nursing home care and home health care services are
available in a special type of insurance called long-term care insurance. This type of policy is very specialized and
requires far more discussion than will be provided here. In California, agents may not sell long-term
care policies unless they have completed the required course for long-term care
(a course specially designed for California agents).
Medicare does not cover the costs of long-term care, although
there are very limited benefits for skilled nursing home care, the highest
level of care received in a nursing home.
There are three levels of care: skilled, intermediate, and
custodial. Custodial care may also be
called maintenance care, since it is the care associated with maintaining the
basic living requirements (eating, bathing, ambulating, and so forth). Both skilled and intermediate care is
associated with recovery, containing some type of medical or rehabilitative
care.
Some might consider long-term care policies expensive and the
older one is at the time of application the more it expensive it is. It is best
to purchase this type of insurance prior to the age of 60 in order to maintain
a lower policy cost. Long-term care
policies, called LTC policies, covers only the costs associated with that type
of care; they do not pay for hospitalization nor do they cover the costs of a
physician. Not everyone will need to
purchase coverage for care in a nursing home or care received at home, but for
many it will be a prudent purchase.
Whether or not one should purchase such coverage requires thought and
research. It should not be decided on
the basis of this limited information.
Medicare supplemental insurance may be purchased from any source
that is viewed as financially stable (insurers should be rated A by A.M.
Best). Long-term care insurance should
also be purchased from a financially strong insurer, especially since benefits
may not be needed for several years after purchase. Most professionals would consider research into this type of
policy to be part of estate planning.
It is one way to preserve assets for beneficiaries.
One very important part of estate planning is the will and, if
applicable, the trust. Every person of
legal age should have a will even if they consider themselves without
assets. Of course, those with assets most
definitely need a will. Even when a
trust, whether revocable or irrevocable, is in place a will is still
appropriate and needed.
Simply drafting a will is not enough. It needs to be reviewed annually and updated as changes
occur. Any major change in family membership
should trigger reassessment. This would
include divorce, marriage, births, and deaths.
Changes in assets might also require a new or revised will. Codicils can be added to an existing will,
but there should never be excessive codicils.
Anything that muddies up the strength or intent of the will weakens it and
leaves the will open to dispute.
Senior Americans should not automatically be viewed as nave when
it comes to finances. The vast majority
has had a lifetime of learning and experiences that younger Americans
lack. Senior Americans have also been
exposed to sales practices of all kinds and may not be taken in by some, as a
younger person would be. Older
Americans have come to realize that there is no such thing as get-rich-quick. They know it takes common sense and planning
to have a secure future.
Having said that, it is also true that as we age health
conditions can deteriorate an otherwise sound mind. The salesperson can recognize some of the signs of mental deterioration. During the sales presentation it may become
evident that the investor is obviously not retaining presented
information. There may be medical
equipment in the room. The investor may
obviously not be in prime health, which could impair his or her ability to
understand the products being presented.
California Civil Code 38 and 39 states:
A person entirely without understanding has no power to make a
contract of any kind, but the person is liable for the reasonable value of
things furnished to the person necessary for the support of the person or the
persons family.
(a) A conveyance or other contract of a person of unsound mind,
but not entirely without understanding, made before the incapacity of the
person has been judicially determined, is subject to rescission, as provided in
Chapter 2 of Title 5 of Part 2 of division 3.
(b) A rebuttable presumption affecting the burden of proof that a
person is of unsound mind shall exist for purposes of this section if the
person is substantially unable to manage his or her own financial resources or
resist fraud or undue influence.
Substantial inability may not be proved solely by isolated incidents of
negligence or improvidence.
Some products may be complex and/or high risk. The investor will need to fully understand the
risks involved. Perhaps some of the
reason senior Americans prefer annuities is the fact that they do understand
them. However, variable annuities may
not be as easily understood as fixed-rate annuities. Equity-Indexed Annuities are also more complex than fixed-rate
annuities. If there is any chance that
the complexity of the product, combined with indications that the investor is
lacking short-term memory or judgment exists, the agent must immediately either
stop the sales presentation or consult with the investors legal or personal
advisor.
Every agent has an ethical responsibility to every investor,
regardless of age. However, senior
Americans present unique ethical issues.
As Civil Code 38 and 39 demonstrate, agents may not pursue sales with
those who are not mentally able to form a sound judgment based on the presented
facts. Beyond the civil code, it would
simply be unethical to pursue a sale with a person not able to make sound
judgments.
Every agent has an ethical obligation to each person they deal
with professionally. Those ethical
codes dictate that they do their best to present each investor with full facts
regarding each type of investment they are representing. This is not only their ethical
responsibility it is a requirement.
End of
Chapter Eight
United
Insurance Educators, Inc.