Annuity Myths and Facts

An annuity is a contract between an investor and a life insurance company. Annuities are sold by insurance agents, stock brokers, and other financial advisors. The annuitant, who is usually (but not always) the owner of the annuity, pays a lump sum amount or makes deposits over time and the insurance company promises immediate payments or payments at a future date.

Below are some key things to know about annuities from a recent seminar that I attended:

 

Complexity- Annuities are often sold as a “simple” investment but, in reality, they can be quite complicated. Annuity salespeople sometimes convince people there are no fees but, of course, there are. Examples include surrender charges, sales commissions (loads), management fees, and mortality charges.

 

No Federal Insurance- There is no federal government insurance for annuities as there is for bank products (FDIC) and investment products (SIPC). Therefore, credit quality of issuing insurance companies is very important. Look for an issuer that is highly rated by at least two insurance company rating firms (e.g., A.M. Best, Duff and Phelps, and Standard and Poor’s).

 

Three Types-Fixed annuities are like CDs, only tax-deferred, and guarantee a certain interest rate for a specified time period. Variable annuities are like mutual funds, only tax-deferred, and their owners select underlying mutual funds, called subaccounts, which determine an annuity’s performance. Equity-indexed annuities tie a portion of their return to a stock market index such as the Standard and Poor’s 500. Generally, variable annuities have the highest fees.

 

Two Time Categories- Immediate annuities begin payment within a year of purchase. They are often bought with money from settlements, investment accounts, and pension plan lump sum distributions. Deferred annuities make payments at a future date and allow annuitants time to make deposits. Either type provides a guaranteed income stream subject to contract terms.

 

What Not to Do- Annuities are generally not appropriate for qualified retirement plans such as 401(k)s or IRAs. They are already a tax-deferred product and investors gain no benefit by placing them in a tax-deferred plan. In addition, many annuities have high expenses, making them a less attractive alternative to low-cost investments such as index funds and ETFs.

 

Income Taxes- Earnings on annuities are tax-deferred until annuitants make a withdrawal, generally during retirement. At that time, withdrawals are taxed as ordinary income, minus the amount of after-tax dollars originally used the purchase the annuity.

 

Reasons to Purchase- The attorney presenter noted the following reasons to consider an annuity as part of overall estate and financial plans: 1. Medicaid planning, 2. To convert life insurance policy cash value into income and stop making premium payments, 3. For a guaranteed lifetime income stream, and 4. To dole out money to a spendthrift adult child.

 

In summary, annuities are a financial tool to consider...when they make sense. 

Look for highly rated, low-expense vendors.

This post provides general personal finance or consumer decision-making information and does not address all the variables that apply to an individual’s unique situation. It does not endorse specific products or services and should not be construed as legal or financial advice. If professional assistance is required, the services of a competent professional should be sought.

Auto Insurance: Strategies to Save

One of the largest items in household budgets is car insurance. According to Bankrate, the average annual cost of car insurance in June 2022 was $1,771 per year ($148 per month) for full coverage and $545 for just the minimum coverage required by state law.

Of course, individual insurance premiums vary widely according to multiple factors (e.g., driver characteristics, type of vehicle, location of vehicle, and the current economic climate for labor and parts costs).

Do you want to save money on car insurance without sacrificing needed coverage? Below are ten general tips for purchasing an auto insurance policy:

¨    Don’t Skimp on Liability Coverage- Remember that liability coverage is the most important part of an auto insurance policy because there is no upper limit on a potential liability judgment. It can be whatever the results of a lawsuit are if you are in an auto accident and a court decides that you are at fault. Awards in the millions of dollars are not unheard of and minimum amounts required by states are inadequate.

 

¨    Watch Your Numbers- Increase liability coverage to at least 100/300/50. Limits of $250,000 per person, $500,000 per accident, and $100,000 of property damage coverage (250/500/100) are even better or, better still, a $1 million umbrella liability policy if you have a significant net worth (assets minus debts). In addition, raise your “uninsured motorist” coverage (which covers you if a driver with no liability insurance or inadequate liability insurance hits you) to 100/300/50 or higher. In some states, including mine (Florida), more than 1 in 5 drivers is uninsured!

 

¨    Revisit Your Deductibles- Check with your insurance agent on policy premium costs and consider raising the deductibles on your policy (e.g., collision and comprehensive coverage) to the highest level that you can afford to pay in case of an accident. Do this (e.g., a $500 to a $1,000 deductible), however, only if there is significant savings. Make sure that you have the deductible amount (e.g., $1,000) saved in your emergency fund in case you need it.

 

¨    Revisit Your Coverage- Evaluate the cost and payoff for collision and comprehensive coverage if you drive an older (7 to 10+ years) car. Check the Kelly Blue Book website to find out what your car is worth. If it got totaled, that is approximately how much you would get from your insurance company, after the deductible. Taking collision and comprehensive coverage off of insurance policies for older cars is a way to keep premiums down.

 

¨    Take Advantage of Available Discounts- Ask your insurance agent for available discounts. For example, I have 14 listed discounts on my auto insurance policy including: safe driver, multiple policy (auto insurance bundled with homeowners and umbrella policies), full payment, anti-theft devices, antilock brakes, age 55+, responsible payer, homeowner, electronic stability control, and preferred package (I have no idea what this is, but I’ll take it!).

 

¨    Choose Your Car Carefully- Buy a make and model of car that is less costly to insure and equip it with money-saving features; e.g., air bags, antilock brakes, and alarms. High performance sports cars are naturals for high-priced coverage and standard sedans are usually the cheapest to insure. The location where a car is garaged also matters. Factors considered by insurance companies include traffic volumes, claims reporting rates, and theft/vandalism rates.

 

¨    Keep Your Driving Record Clean- Never drive when impaired (e.g., alcohol, drugs, lack of sleep) and try to stay off the road during bad weather conditions (e.g., snow and ice storms). Also consider taking a Defensive Driving course (e.g., the “55 Alive/Mature Driving” class offered by AARP). Make sure that teen divers in your family take driver’s education training and maintain a good academic record.

 

¨    Avoid Unnecessary Duplication- Ask your insurance agent about this. An example is coverage for auto-related medical expenses if you have a good comprehensive health insurance policy. However, if you drive at lot of non-family members around (e.g., carpooling), you may want to keep medical payments coverage. Otherwise, an injured passenger without health insurance may have to sue you for negligence to get coverage under your liability.

 

¨    Shop Around- Get information about premiums, coverage, and claims service from a number of insurance companies or agents. Also ask about available policy discounts. A few phone calls could save $50 or $100. 

 

¨    Keep Personal Information Current- Notify your insurance company if you, or an insured household member, substantially change your driving patterns; move to a different city or state; buy or sell a car; marry; or turn 21, 25, or 29. For example, former commuters who are now working from home and recent retirees may see a drop in their premium because they are incurring less risk of being in an accident by driving less often.

 

This post provides general personal finance or consumer decision-making information and does not address all the variables that apply to an individual’s unique situation. It does not endorse specific products or services and should not be construed as legal or financial advice. If professional assistance is required, the services of a competent professional should be sought.

 

Umbrella Insurance: Do You Need It?

Like an umbrella that covers your head to protect you from a rainstorm, an umbrella liability policy “covers” your other property insurance, thereby providing additional protection.

Policy benefits start where other polices end. For example, after claims exceed $300,000 of liability coverage on an underlying auto or homeowners policy. 

Umbrella policies provide coverage for $1 million, or million-dollar increments above a policyholder's underlying auto, boat, and/or homeowners/renters insurance liability limits.

Another good term to describe how umbrella liability policies work is “piggybacking.” 

If you were sued for $850,000 for injuries caused to others and had $300,000 of underlying property insurance liability coverage, a $1 million umbrella policy would cover the remaining $550,000, thereby “piggybacking” $550,000 onto $300,000. 

Umbrella policies also pay for legal fees involved in a lawsuit.

To summarize, umbrella insurance protects policyholders’ assets from large claims when they are found at fault. 

People typically purchase a policy when they accumulate significant ($1 million+) assets that require protection against potential lawsuits and liability judgments.

Below are some key points to consider:

¨     Umbrella policies protect assets and/or future earnings from damages arising from lawsuits or settlements

¨     Premiums typically cost about $250 to $400 annually for an initial $1 million of coverage; shop around

¨     Additional increments of $1 million of coverage typically cost about another $150 to $250 per year

¨     Policies typically require the purchase of underlying homeowners and auto insurance from the same company

¨     Policy discounts may be available when various types of property insurance are “bundled” together

¨     Umbrella policies can protect against charges of libel and slander

¨     Policies also cover damages arising from service as a director or officer of a non-profit organization board

 

Don’t think you need umbrella insurance? Consider these possible liability scenarios:

¨     A neighbor’s child dives into your pool and is paralyzed

¨     A delivery person or mailman breaks a leg on icy steps and sues for lost earnings and damages

¨     A non-profit board you serve on is sued for negligence and has inadequate coverage for its officers

¨     Your teenager driver child causes a multi-car auto accident resulting in fatalities

¨     You have a swimming pool, hot tub, or dog and live in a neighborhood with small children

¨     You are sued for damages involving a boat that you rented on vacation

¨     You employ a contractor, nanny, or housecleaner that does not carry liability or worker’s comp insurance

¨     Your child hosts an unauthorized party with alcohol in your absence and drunken guests get injured

¨     You are found liable for property damage caused by a car that you rented overseas

 

A key point to consider is that the scope of injury claims can be large dollar amounts that are well above standard policy limits and are generally outside of your control. For example, medical bills and/or property damage resulting from an accident or replacing decades of lost wages for a seriously injured high earner.

 

Over 80% of umbrella policy losses are related to automobile use, which is something to consider if you have a long commute to work or have to drive on roads that can become treacherous in icy winter weather.

 

One large personal injury claim can put years of accumulated savings for retirement and/or decades of future earnings at risk. If you are fortunate enough to earn a good salary or to have been able to build wealth over time, consider protecting your hard-earned money with umbrella insurance. 

Even if you are not a millionaire, your future income and assets could be at jeopardy with a large claim. For around $25/month, you can have $1 million in liability protection and peace of mind.