BY JOE BRISBEN
If you will turn 65 between2011 and 2027 and are considering an annuity aspart of your financial plan, you should watch out for twelve possible pitfalls.
There is insufficient space in this column to cover all twelve, so we shalldeal with six now and six next month. In no particular order, they are:
• Naming your estate as beneficiary. Owners who do this subject theirestates to tragedy. They take a resource normally free from probate and makeit part of probate. It is now exposed to the delays and costs of probate, andthe owners lose all the privacy that an annuity can provide.
• Failing to name contingent beneficiaries. You should name back-upsto both your primary and contingent beneficiaries and review the names everyyear or so. More often than one might think, a primary or contingent beneficiarydies before the owner does, or they die simultaneously. If no beneficiariesare left after the owner dies, the law calls for the annuity to be subjectto the probate process.
• Making annuities payable outright to minor childrenor grandchildren. If you do, state laws may tie up the proceeds. The state will require you toname a custodian or guardian, and expenses may mount. There are three possiblesolutions:
1. Establish a trust for spouse and children and name the trust as recipientof the proceeds.
2. Name a trustee for the minor to receive and manage the annuity proceedson behalf of the minor.
3. Instruct the insurer to pay out the proceeds using an income settlementoption. Then the proceeds will be doled out to the beneficiaries over a longperiod of time.
Establishing a formal trust may cost several thousand dollars, but it maybe the best alternative. If the annuity involves a significant sum of moneyor if control is an issue (as would be the case if a beneficiary between 18and 21 were set on acquiring a Pontiac Firebird with a “T” topand a gold eagle painted on the hood), consider having a trust drafted.
• Choosing an annuity with inappropriate features. Some of the questionsyou will need to answer are: Do you need a multi-year guaranteed interest rate?Do you need an annuity, the performance of which is tied to the Standard & Poor’s(S&P) 500 or some other index?
While it may earn you more money, will your principal be fully protected?Do you need a large premium bonus? What are the liquidity features? How importantto you are penalty-free withdrawals, annuitization options, and Medicaid spend-downflexibility?
The most important questions for an annuity owner should be safety of principaland the financial stability of the carrier, as measured by A.M. Best, whichis to insurance companies as the S&P, Moody’s, and other ratingsagencies are to stocks and bonds. Acquiring an annuity appropriate to yourneeds requires asking probing questions.
• When an older owner selects a younger annuitant. If the older clientbecomes the owner with the younger as the annuitant and if the annuitant dies,the death benefit is payable.
However, if the annuity owner dies and if he/she is not the annuitant, therewill be a forced distribution—with surrender charges.
• Not understanding the settlement options. Most clients want an incomepaid over time to their beneficiaries. Such an option almost always saves thebeneficiaries on income taxes. However, many products, especially those withsubstantial bonuses, are available only with payout upon death.
However, carriers in exchange can offer annuities to older clients where thereis a death payout or surrender charges. This allows clients to have more benefitchoices.
To read the next 6 annuity pitfalls, go to PartII.