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Ten Things Forbes Won't Tell You About Variable Annuities
  1. It is clear from this piece that the reporter has pursued only one side of the story and either neglected or consciously refused to get her facts straight. Never once did Ms. Geer contact NAVA, nor did she include facts and opinions from our members mentioned in the piece. Words like "stupid," "gullible" and "sucker" insult the reader and allow for no balance whatsoever to her piece.

    Variable annuities are not Forbes' only target. The article also attacks the much esteemed and highly respected Wall Street Journal, calling its reporting of the impressive performance of variable annuities "balderdash." To call the reporting of this topic by The Wall Street Journal into question is to say that balanced and fair coverage is editorially inferior. Forbes reveals its own obvious shortcomings and lack of credibility when it makes this sort of judgment.

  2. Claim: The 1997 tax law should have stopped variable annuity sales cold.

     The article states that, "the benefit of wrapping an annuity around your stock portfolio has just about vanished" as a result of the reduction in the capital gains tax rate. However, Ms. Geer fails to consider two very important factors: portfolio turnover and mutual fund holding periods.

    Portfolio Turnover
    Mutual funds generally distribute all dividends, short-term gains, and long-term capital gains realized by the fund through its investment activities. Mutual fund investors are taxed annually on their share of distributed income. A mutual fund investor includes all dividends and short-term capital gains distributions in ordinary income. Prior to the 1997 law, investments held for more than 12 months were subject to a capital gains tax rate of 28 percent. The new law sets a maximum rate of 20 percent on gains from the sale of investments held for more than 18 months.

    Most mutual funds will not benefit much from the new capital gains rate. Most funds are managed for total return-not tax efficiency. Many funds have annual portfolio turnovers of 90 percent or more. These funds were not even generating significant long-term capital gains when the holding period was 12 months, and it is unlikely that they will take advantage of the new tax rate for assets held more than 18 months.

    Mutual Fund Holding Periods
    Based on data from the Investment Company Institute, the trade association representing the mutual fund industry, the average holding period of stock and bond mutual fund investments is from 3 to 5 years. Mutual fund investors are subject to taxes on any capital gains realized on the sale, exchange or redemption of their mutual fund shares, and these taxes eat away at their investment gains. Variable annuity holders, on the other hand, can exchange among subaccounts as frequently as their investment needs and market conditions dictate, since there are no tax consequences from these exchanges. This is an important advantage variable annuities have over mutual funds, but it is ignored in the article.

  3. Claim: The Price Waterhouse study is a stunning specimen of spin.

     In response to the 1997 tax act, NAVA commissioned Price Waterhouse to prepare an analysis of the legislation's effect on the after-tax performance of variable annuity and mutual fund investments. The analysis concludes that "variable annuities remain attractive investments for long-term savers relative to mutual funds."

    According to the article, however, "Price Waterhouse made some dubious base assumptions. Among them: that variable annuity investors will be taxed at the rock-bottom 15% federal income tax rate when they withdraw their money in retirement, and that the investments will earn 13.6% per year…" The assumptions used by Price Waterhouse in the study were based on the highest caliber of research. The tax rate used (28 percent during the accumulation phase and 15 percent during the payout phase) was based on a survey conducted by The Gallup Organization. Surely, Forbes does not question the independence or professionalism of Gallup. The 13.6 percent annual rate of return used is the actual average annual gross rate of return across all funds included in the study over the 1987 to 1996 period based on data supplied by Morningstar.

    Even if Ms. Geer was not interested in how the change in the tax rate affected the average investor under historically accurate conditions, data for a number of alternative scenarios was available to her within the study itself. For example, if it is assumed that an individual is in the 36 percent tax bracket during the accumulation phase and in the 28 percent tax bracket during the payout phase, the break-even holding period is 8.7 years. (For no load mutual funds and assuming a lump sum distribution). On the issue of rate of return, the study looked at a 9.6 percent market return and found the break-even point for a 10-year term certain distribution option to be 5.3 years, a change of 2.7 years under the new law.

    There have been several studies released subsequent to the change in the tax law on this issue. Ms. Geer references a study conducted by a Washington State University professor in her article. The results are so grossly different, that we can make no guess as to the methodology or assumptions employed by this researcher. Ms. Geer does not provide us with this information, and therefore we can not hazard a guess as to why this one study so greatly differs from any others we have seen.

  4. Claim: The death benefit is a pale imitation of insurance.

     Notwithstanding the article's assertion to the contrary, variable annuities provide valuable protection for retirement savings through a death benefit that many investors regard as vitally important. No one can predict if they will die when the market is up or down. Even though the stock market has historically been an excellent investment for long-term growth, it is important to remember that, at any given point in time, the market can be down.

    The standard death benefit provided by variable annuities guarantees that if the policyholder dies while still saving for retirement, his or her heirs will receive the greater of the amount of money that was invested or the policy's value at the time of death. Many variable annuities go even further and offer "stepped up" benefits that lock in investment gains every few years or even every year. The guaranteed death benefit gives policyholders the confidence to invest in the stock market, which is important in order to keep pace with inflation, since they know that their family will be protected against financial loss in the event of an untimely death.

    The article complains that "To collect on the insurance … you have to pick a rotten investment-and then drop dead before the investment recovers." But this misses the point. When an individual purchases an insurance contract-be it life insurance, homeowners insurance or whatever-what he or she is really buying is protection against economic loss. However, that loss does not have to be realized for the protection to have value. No reasonable person would say that an individual who purchased a homeowners policy made a poor decision simply because his or her house never caught fire. Hindsight is always 20/20, but unfortunately people don't have the benefit of it when making important life decisions.

  5. Claim: "What is this insurance worth?… Not much."

     The captioned material on page 109 of the article argues that variable annuity benefits are not worth the insurance charges, but the discussion only addresses the death benefit. The annuitization aspect of the product is completely ignored. Variable annuities provide payout options that can protect individuals from outliving their assets. Many retirees realize that the real challenge is managing their savings so they will last a lifetime. This will be especially true for the Baby Boomers who can expect to spend as much time retired as they did working.

    Moreover, the annuity purchase rates are guaranteed for the life of the contract. As a result, by purchasing an annuity today, the policyholder may elect a lifetime income payout option when he or she retires at today's purchase rates. The duration of this guarantee varies with the time that elapses between the purchase and the annuitization of the contract. For example, if an individual purchases a variable annuity at age 40 and annuitizes at age 70, then the guarantee will have lasted for 30 years (plus the period of the annuity income stream).

    Given the significant changes that can occur over time with respect to the economy, longevity, and the insurance company's costs of doing business, the guaranteed purchase rates are a valuable benefit provided by variable annuities. If life spans increase during the accumulation period, the guaranteed purchase rates may produce larger monthly payments than would the current or "immediate" annuity rates when the policyholder annuitizes. On the other hand, if the rates being offered to individuals who purchase immediate annuities are more favorable than the guaranteed purchase rates, the policyholder can annuitize using immediate annuity rates. In effect, the policyholder is in a win/win situation.*

  6. Claim: Variable annuities have outlandishly high fees.

     Annuities and mutual funds impose fees for investment management. Annuities also impose insurance charges which pay for the insurance benefits provided by variable annuities. However, these fees are not "outlandishly high." The actual additional cost to the investor of the insurance benefits provided is typically less than the insurance charges included in a variable annuity contract. This is because the underlying funds in variable annuities generally impose lower fees than publicly offered mutual funds, and those lower expenses offset to some extent the insurance charges. Based on data provided by Lipper Analytical Services, the total average cost differential between variable annuities and mutual funds in 1996 was only 60 basis points.

    This is a crucial point when analyzing the additional costs and benefits of a variable annuity vis-à-vis a mutual fund. Lower fund expenses offset about half of the "extra" expense charged by variable annuities.

  7. Claim: Variable annuities have outlandishly high commissions.

     Ms. Geer takes exception to the commissions paid to the people who sell variable annuities. In the insurance industry, a commission pays for the expert advice and counsel offered by a salesperson in the retirement planning process. Variable annuities are complex products, not easily understood by those who have not taken the time to familiarize themselves with all of their various features and components. As the Forbes article proves, even Ms. Geer does not fully understand the variable annuity product. The guidance and advice offered by knowledgeable salespeople to their clients is worth the commission they are paid. For this reason, we strongly disagree with the assertion made by Ms. Geer in the Forbes Quiz that you should only consider buying a variable annuity if you are going to buy a no-load contract. Fortunately, there are millions of Americans who are not willing to put their future security in jeopardy based on such a shortsighted suggestion.

  8. Claim: It is better to buy an IRA than a variable annuity.

     More Americans than ever are concerned that they won't have a comfortable "nest egg" when they retire. The Social Security Administration states that Baby Boomers will be responsible for 70 percent of their own retirement savings. And recent Census Bureau data reveals that the number of people age 65 and older doubled between 1960 and 1994, and the number of people age 85 and older grew by 274 percent. These and other facts strongly support a basic truth: Americans are living longer and need to invest as much for retirement as possible to avoid outliving their savings.

    Variable annuities are ideal vehicles for retirement planning because they help investments grow faster and last longer. We are not saying that IRAs are a bad choice as a retirement savings instrument-they just aren't enough. That's because there are strict limits on what can be contributed to them each year. Unlike an IRA, variable annuities have no such limits, so investors can contribute as much as they want.

  9. Claim: There is no justification for using a variable annuity in a qualified plan.

    Ms. Geer also disparages the use of variable annuities in a qualified plan, such as an IRA or a 401(k). Why use a variable annuity to fund a qualified plan? Because only variable annuities offer a unique combination of benefits that most retirement focused Americans want and need: lifetime income payments, family protection, guaranteed insurance fees, and investment options and strategies that help protect against the ravages of inflation. The cost of these benefits is a small price to pay for the protection that is provided.

    Perhaps Ms. Geer is unaware that variable annuities were specifically designed for the qualified market and have been recognized by Congress to be a legitimate funding vehicle for qualified plans. Their use in this market is both long-standing and widespread. Indeed, millions of Americans have chosen to invest their qualified plan savings in variable annuities. We believe these Americans recognized the benefits variable annuities bring to their retirement plans, and have chosen wisely.

  10. Claim: The investment landscape is littered with victims of aggressive variable annuities salespeople.

    According to Ms. Geer, young widows, baby boomers, small business owners and even top executives have been "imprisoned" (Page 110). The industry takes the issue of ethical sales practices very seriously. That's why NAVA has strict marketing guidelines for our member companies. It is outrageous to imply, as the Forbes article does, that these types of activities are widespread throughout the industry.

    The vast majority of annuities have been sold to investors who believe they have benefited greatly from this tax-deferred retirement savings vehicle. The Gallup Organization recently conducted a survey of annuity holders and found that 84 percent feel they have saved more money with an annuity than they would have if the annuity had not been available. And, almost all-93 percent of those surveyed-agree that annuities are an effective way of saving for retirement. This is a track record any industry would be proud of.


    Mark J. Mackey
    President and CEO, NAVA

    © 2006 NAVA National Association for Variable Annuities. All Rights Reserved.
    Phone: 703-707-8830 · Fax: 703-707-8831