Look Before You Leap...

Please Note: I am leaning heavily on the New York Times article, Getting the Full Picture on Annuities and Insurance, in this month's blog.

This month I am writing on some of the complexities that I have seen with various insurance products. I see your eyes glazing over! This is an important topic, so a little perseverance will go a long way...

When developing a financial plan, I tend to lean heavily on various insurance specialists for the "heavy lifting" as many of these products tend to be complex, warranting the expertise of a professional who “lives and breathes” insurance every day, all day.  That said, I felt compelled to write this blog as I have seen one too many instances where an insurance product was sold to an individual who didn't understand some of the product's complexities, including the cost versus the benefit.. This is an area of financial services where you may want to look before you leap - taking time to assess whether the types of products discussed in this blog truly align with your goals - and your pocketbook.

Should You Use Insurance As An Investment Vehicle?

Life insurance is supposed to accomplish a very simple goal – to provide your family a nest egg should you die unexpectedly. Annuities are also an insurance product and are supposed to provide a steady stream of income in retirement.

However, the waters have been muddied over the years with these products being promoted as investment vehicles and for their associated tax benefits.

  • Permanent Insurance Like regular term insurance, the death benefit goes to the beneficiary free of income tax at the time of death. However, permanent insurance policy has an investment component that grows tax deferred. (Contributions are not tax deductible.) The holder can borrow against the cash value of the policy (paying an annual interest rate) and does not pay income taxes on withdrawals for this loan. (The death benefit is reduced by the amount of the loan, if not paid back.) At the time of withdrawal, all gains are taxed at the investor's current income tax rate.

  • Annuities Contributions to variable annuities also grow tax deferred. (Contributions are not tax deductible.) At the time of withdrawal, all gains are taxed at your current income tax rate.

It’s worth noting that these products may be sold to leverage the current economic or market environment. For example, an insurance company may promote the tax deferred growth benefits if legislation has just been passed that increases estate taxes. Or an annuity may be pitched based on the state of the stock market, on investors’ concerns and fears:

“Oftentimes these products are sold based on the moment in time,” said Richard Coppa, managing director of Wealth Health, a financial advisory firm. [After the stock market crash in 2008] “…they were sold on guaranteed returns ... because people were so fearful. Today, it’s uncertainty about taxes because many of the favorable tax treatments out there are subject to negotiation.” *

This may become an issue if consumers are not aware of such sales tactics, and rather, are lured in by the product's supposed benefits.  And as mentioned, these products can be very complicated, with the buyer not fully understanding the policy terms, the associated costs, nor the potential inherent conflicts of interest inherent in the sales process:

  • Policies may carry high upfront commissions, which are paid by the insurance company to the agent/broker for recommending the product to a client. The question becomes "is the decision to recommend a particular product influenced by these commissions?"

  • Policies may have ongoing annual fees that are not often clear to the client. The agent/broker recommending the product usually receives a portion of these ongoing fees. If you buy additional riders, each rider may have an annual fee, as well.

  • Policies may have limited investment options, and charge the client for early withdrawal, forcing holders to choose between paying the penalty or leaving their money in a policy they may no longer meet their needs.

I have seen a lot over my years in this business – IRAs inside of annuities; insurance agents hesitant to discuss with the client the  fees associated with her policy; a client who thought that she and her husband would never have to pay another premium after the cash value, being used to pay current premiums,  ran out; a colleague who bought a product based on the income stream generated, but not understanding that in doing so, she forfeited the nest egg used to fund the policy – thus significantly reducing what she was expecting to leave her kids after her death.

This is not to say that there aren’t instances where these products can help a client meet his/her goals. For example, moving someone from a higher cost annuity to a lower cost one. Or, if you have taxable assets that you plan to leave to a charity or to your children, a low cost variable annuity (such as the options at Jefferson National)  where the annual fee is $240) may make sense.

And I in no way suggesting that there aren’t very experienced, honest advisors, brokers, and insurance agents out there.  I work with a quite a few.

What I am suggesting, however, is that you need to be informed:

  • What goals are you trying to meet with this product? Is it insurance, tax deferral, consistent income stream, other?

  • How much is it costing you? Is the cost versus the benefit in alignment with your goals? Are other strategies available that might meet your needs, but cost less?

  • How long do you want to keep your money in the policy? Is there a “surrender period” where you would have to pay a penalty to exit the policy?

Working With A "Fee Only" Financial Advisor

It may also be worth considering working with"fee-only financial advisor" who can help you assess these options in the context of your broader life and financial goals.

"Fee-only" may sound like it’s going to cost a lot. Actually, this term has nothing to do with how much you pay, but has everything to do with how the advisor is paid. Working with a "fee-only" advisor means that s/he receives payment solely from the client – in other words, no commissions or trailing annual fees are paid by the insurance company to the advisor as incentive, which may significantly reduce the potential conflicts of interest.

As always, we welcome dialogue on this subject. Click here to join the conversation!

Be well,


* Source: New York Times,  Getting the Full Picture on Annuities and Insurance.

Alexis Advisors is a Certified Benefit Corporation which means we don’t exist just to turn a profit. Our goal is to use our business as a force for good in our community, being intentional about how we run our business. We also seek to provide at least 100 hours of pro-bono financial planning and community service each year. We also give 1-2% per year of our gross revenues to non-profits in the RVA community. Our complete B Impact Report is below.