Variable Annuity Fee Breakdown

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Variable annuities (VAs) are deferred annuities that allow you to hold stocks and bonds inside their annuity wrapper. Since the investments are allowed to grow in a tax-deferred manner, it’s often marketed as “like a Roth IRA”. In reality, they usually only make sense for individuals only after they max out all available IRA and 401(k) options. Since we do this, I’ve been doing some more research into the area.

But even then, variable annuities might not make sense due to all the fees that are often included. A 2006 “Fee Factor” article [PDF] from Financial Planning magazine does a pretty good job outlining the many layers of fees that you might encounter. Here’s a summary graphic:

Fees can add up easily to well over 2% of assets annually, and after often hidden since consumers usually only see the net return. You’ll be purchasing some life insurance benefits along with it, but buying it separately via plain-vanilla term life insurance is often a better deal. Finally, there can also be hefty surrender charges if you take out money within the first several years. (The person who sells you the VA gets a commission, and the insurance company needs to earn that back through those annual charges over time.)

As with other financial products, it’s important to understand the different features, fee structures, and do comparison shopping.

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  1. Like you said it may only make sense after you’ve maxed out your other tax advantaged IRA options. The guarantees built into VAs like guaranteed minimum death benefits, guaranteed min accumulation and annuitization benefits give them something you can’t find in an IRA.

    Just like anything read all the fine print and make sure its your best option.

  2. Interesting graphic. Those fees definitely add up.

    In general I agree that one could reproduce the exact features one wanted (and not have to pay for those he/she didn’t) of an annuity on a much cheaper basis if that person had the time and inclination. For example, you can replicate principal protection and partial market exposure using a zero coupon bond and putting the balance in stocks. Vanguard has VAs and I’m sure they are more reasonably priced than average.

    Also let’s not forget that buy-and-hold equities is a relatively tax-efficient strategy including deferral and capital gains tax treatment and also incur no annual fee (think about that). Right now a lot of blue chip stocks are priced relatively cheaply so maybe just take those dollars and buy a portfolio of 30 really good companies with the idea that you’ll reinvest the dividends and hold them until you retire?

  3. WOW! Thanks for the insight $700+ in fees! Crazy!

  4. Vanguard does annuities and their fees for variable annuities are around 0.65%. No sales charges or surrender fees.

  5. Vanguard has a low cost variable, and so does Fidelity. Mortality & Expense is 0.25%, no sales charges or surrender fees. The two companies that make the rest of the annuity world a little uncomfortable.

  6. The itemized bill looks like a outright white-wash if you get to chance to read the VA contract I examined for a client of mine. The total annual expenses add up to 6% of contract value. On top of that, the insurance company (named after a great American president) reserve sthe right to increase them even further.

    I wrote a blog entry about that:

  7. Annuity City says

    @Wealth Mgmt

    6% of contract value that is extremely high. In the UK we have complaints about charges of 3% or above!

  8. Tom Stephens says

    First let me say that I am retired and own Variable Annuities (ie: I am not selling anything). It seems, however, that most everyone is missing the point, and missing some key facts – my understanding of the products that I own is as follows: the Variable Annuity generally will have a Guaranteed Interest Rate and two separate accounts – the actual invested principal account and a tracking account. The principal account is invested in Mutual Funds and at the end of each year, if the Mutual Fund Return is greater than the Guaranteed Interest Amount (after the co subtracts its fees) the tracking account is re-set to the higher amount (of the invested account); if the Mutual Fund Return is less than the Guaranteed Interest Amount, the tracking account is re-set by the addition of the Guaranteed Interest Rate – the Mutual Funds could actually tank, but your Guaranteed Monthly Income will always be based on the amount in the tracking account. So, if at the end of x number of years, bad Mutual Fund Returns and Fees whittled the principal account down to zero, you would still be entitled to the Guaranteed Income Benefit for the rest of your life. There are also generally other benefits, such as – if there is still money left in the original principal account at your death, then the beneficiary will get the original principal amount; also, you can get access to all of your money after some time period, like 7 years. The bells and whistles vary by the company offering the Variable Annuity, but they all will generally work the way described above. So, is this a good investment strategy for everyone, probably not, but if you are thinking that it might be right for you, don’t be scared off by all of the focus on high fees.

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