Have you ever been to a retirement seminar put on by your agency or employee union or group? Did it include a “financial advisor” who spoke for a short period of time?
Retirement seminars for federal employees are great, but many of these events are actually sponsored by so-called financial advisors who are trying to sell insurance products.
I am all for education and empowering yourself with the knowledge you need to retire, but there can be dangers associated with these seminars. For example, you may get inaccurate information – or more importantly – you could get swindled by the salesman sponsoring the seminar.
Here is the way these seminars typically go.
The majority of the seminar will feature a benefits expert who is typically a retired federal human resources employee. Most of these HR experts I’ve encountered do a very good job explaining federal benefits and educating on retirement.
However, at some point in the seminar, the benefits expert will yield to a financial advisor who will speak about various topics and offer a free benefits analysis to attendees. What this analysis will usually lead to is a proposal to move TSP funds to an annuity, typically an equity indexed annuity.
I’ve written about these problematic products in the past, as well as covered them in videos, but I’ll give you a summary of one such proposal I reviewed last week.
Soon-to-be retired “Joe” received a proposal advising him to move 75% of his TSP funds to an equity indexed annuity. I found many issues with this recommendation, as follows.
The “advisor” was employed by the annuity company. This means there is no incentive for them to offer the best annuity available in the general marketplace. Instead, they typically recommend what their company offers.
The annuity had a 10 year surrender charge. Therefore, the most Joe could withdraw from his annuity was 10% per year, giving him limited access to his funds.
The returns in the annuity were based on an index only, as the product does not include dividends. According to Fidelity, 40% of stock market returns in the time period of 1930-2020 come from dividends. If we assume a stock index return of 10%, Joe’s return in the contract goes down to 6%. If we also assume that the market is up 7 years out of 10 (it doesn’t go up every year) then Joe’s average return is down to 4.2% over a 10 year time period.
There was a 1% charge in the contract for an income rider. This charge applies against Joe’s average return. If we use the numbers from above over a 10 year time period, then Joe’s return is down to 3.2% (4.2% – 1% fee). However, the 1% charge is actually based on a higher value (called the income base) than what the account value is so that will decrease Joe’s return even further.
The crediting strategy is a volatility index made up by the insurance company. A crediting strategy is how your contract makes money. These volatility indexes sound good in theory. However, in my experience a volatility index usually equals lower returns.
An allocation of 75% of Joe’s investable assets is too high. Many companies will only allow advisors to put 40% of a client’s liquid assets into annuities due to the potential drawbacks of the contracts.
The cap rate is determined by the insurance company. A cap rate is the highest return that an annuity can make in a set time period. This means the insurance company has control over how much a policyholder can make. The guaranteed cap rate on Joe’s proposed contract was .25%. Annuities like this will have a current cap rate and a guaranteed cap rate. Th guaranteed rate is the lowest that a cap rate can go, meaning that the insurance company could lower the cap down to .25%, so the most a policy holder could make in a year with a .25% cap rate would be .25%.
THESE CONTRACTS ARE COMPLICATED! They often involve multiple crediting strategies, cap rates, guaranteed rates, participation rates, surrender charges, account value, income value, income withdrawal percentages, and the list goes on. Furthermore, contracts like this are often sold by telling people all of the benefits and none of the drawbacks. That is what I call a sleazy sales job.
An annuity is insurance, not an investment. I would like to urge everyone attending a retirement seminar to be slow to act on recommendations given by a so-called advisor. Their recommendation could be a solid one, but it could also be one that serves their best interest versus yours. Make sure you do some research to see what is best for you, and don’t be afraid to ask the important question: how do you get paid?
If you find yourself evaluating what to do with investments, TSP funds, and how they relate to your retirement, that is exactly what I do. You are welcome to schedule an introductory call if you would like to speak with a professional who does not sell products.
Brad Bobb, CFP® is the owner of Bobb Financial Inc, and an expert in retirement planning for federal employees.