First, the annuity company had flown Beachwood investment adviser Jeffrey Bogart to California
Now, company representatives were telling him how he could become rich.
About two hours into the four-hour presentation last year, Bogart started getting a sick feeling in his stomach.
Company pitchmen told the room full of about 50 investment advisers and insurance agents how they could charge up to 15 per cent commissions by selling fixed annuities to senior citizens. The typical $60,000 annuity meant $9,000 of the customer’s money in the adviser’s pocket. Tap someone’s $200,000 retirement account and it meant a $30,000 commission.
But the annuities carried empty promises, high charges and even higher penalties for withdrawals, said Bogart, of Bogart, Cunix and Associates.
“I said, I’m not doing this type of product.’ ” Bogart recalled. “I wouldn’t do this to people . . . and I didn’t want to be sued. There’s just no way.”
But about 10 advisers signed up, he said.
Stories like that are increasingly common. Annuities have become one of the hottest investment products. Sales of variable annuities – just one type – have more than doubled in the last several years to more than $100 billion.
Annuities are complex, long-term investments. Some annuities can be worthwhile for some people for some of their money, regulators and financial planners say. But regulators and advisers say the products are tremendously oversold and underexplained to people who are losing money they never wanted to risk.
A mixed bag
Annuities are a hybrid of investments and life insurance. When a consumer invests money in a fixed annuity, he’s guaranteed fixed payments, either for life or for a specified period. The life insurance company is betting the investor will die before the money runs out; some contracts, though, do pay survivor benefits.
Variable annuities are more tricky and controversial. They were created in the 1950s in response to rising inflation and to compete with the increasing popularity of mutual funds. Money invested in a variable annuity is put in stocks, bonds and money-market accounts. Seven to 20 years in the future, the investor can “annuitize,” or set up a long-term payout. Generally, if the investor dies before that, the beneficiary is guaranteed to get at least the principal.
Those simple definitions don’t begin to cover all of the ifs, ands or buts. Annuities are often described as one of the most complicated financial tools, one that confuses even some professionals. Regulators say a recent rash of complaints is expected to be the front end of a storm that’s been brewing the last few years.
Just two weeks ago, the National Association of Securities Dealers warned investors about variable annuities after announcing a slew of fines and charges involving companies including American Express Financial Advisors, Edward Jones Inc., Bank of America, and Raymond James and Associates.
The Securities and Exchange Commission last year tallied a 45 percent increase in variable annuity complaints. While annuities have been around for 50 years, “they had not crept onto our radar screen until last year,” said Susan Wyderko, the SEC’s director of investor education.
Three factors seem to have fueled the complaints:
Three years of a sour stock market and lower CD rates have lured more investors into annuities billed as “guaranteed, no-risk,” only to discover they’re anything but.
It’s likely that many people who bought annuities in the past hadn’t realized they could lose money. That possibility became reality when the stock market started hemorrhaging in 2000.
More investment advisers are selling annuities under false pretenses as they desperately try to prop up their own declining incomes.
The biggest problem with annuities is that many investors mistakenly believe they can’t lose money. Sometimes, that’s a misunderstanding; sometimes, that’s deliberate.
“People are told they’re guaranteed investments,” Wyderko said, “but they are in absolute horror when they realize they’re only guaranteed if they die.”
“Guaranteed” was one of the words used most often by the adviser who sold an annuity to Janyce Fagan, 65, of Strongsville, she said.
Four years ago, Fagan invested $259,000 – nearly all her money – in an annuity through John Hancock Financial Services. She expected to make money but was promised she definitely wouldn’t lose any principal.
By last summer, she’d lost more than $100,000 and her expected $40,000 annual annuity income had shrunk to $15,000.
“I thought it was a sure thing. I just trusted him,” she said of her adviser.
“I asked questions, but I never got a straight answer.” A John Hancock spokesman said he couldn’t comment because of client privacy.
Now, Fagan, who worked years ago as a part-time card shop clerk, is putting in job applications at places like Panera Bread.
“I’ve been trying to stretch my money, but I know the end is near,” she said. “It’s a nightmare.”
Likewise, retiree Carl Hawes of Madison said he lost tens of thousands of dollars from an annuity bought from a local investment adviser in 2000.
He said he didn’t realize there was any risk switching his money from a Russell 2000 investment.
“I felt like it was a safe thing. This was income I was counting on.”
Not for everyone
Another problem with annuities: They’re often sold to the wrong people; they’re good for only a fraction of consumers.
The National Association of Securities Dealers points to recent cases like an 18-year-old high school senior who wanted a safe place to park $30,000 until she was out of college and ready to buy a house.
A Bank of America Investment Services representative sold her a risky annuity when she would be slapped with hefty charges for withdrawing the money in four years and a 10 percent tax penalty for tapping the money before age 59_.
The representative was charged with making an unsuitable sale.
Investors are wooed in part by the fact that annuity earnings grow tax-deferred. But annuities are bought with money you’ve already paid taxes on.
So they make little sense for most people unless they’re already maxing out other tax-deferred options such as IRAs or 401(k)s, and unless they expect to be in a significantly lower tax bracket in the future.
Annuities will become even less attractive under the tax reform that lowers taxes for capital gains.
Older senior citizens often aren’t told they’re locking up their money for 10 or 20 years. “You’ve got an 80-year-old and this guy isn’t buying green bananas and you’re selling him an annuity contract?” said Jesse Hurst, a certified financial planner with Millennial Group in Akron. “There are some abuses.”
The risks and long-term commitments are hidden to many investors.
“If annuities were sold with full information, most people wouldn’t buy them,” said Brian Biggins, a Rocky River securities attorney who represents investors who believe they’ve been ripped off. Annuities cases have been flooding his office for the last year.
“Companies say, ‘It’s all in the disclosures.’ Come on, it’s on page 64 of a legal document that the person has fallen asleep six times reading before they get to that point,” Biggins said.
The benefit of any annuity, Bogart, the Beachwood adviser, said, comes down to what’s in the contract, which “totally overwhelms” most intelligent people. Anything can be spelled out in the lengthy contract: the return, whether money can be withdrawn, whether money must be withdrawn, the risk, the surrender charges, the fees, the number of years and whether the money is forfeited upon death.
California securities attorney Ryan Bakhtiari, whose firm, Aidikoff & Uhl, is one of the nation’s more prominent securities practices, said his office wouldn’t be reviewing an average of 20 new investor cases every day if annuities disclosures were clearer.
“For most of middle America, variable annuities should be a red flag,” Bakhtiari said. “The prospectuses don’t tell the whole story in plain English . . . They don’t tell you you’re invested in the stock market and they absolutely kill you with fees.”
It’s the fees that set annuities, especially variable ones, apart from other investments.
Annuities generally produce the highest commissions of any product a representative can sell.
Buyers of variable annuities pay advisory fees and expenses to the mutual fund company, the commission to the selling agent, insurance company administrative fees and a premium for the mortality risk the company is underwriting. In addition, investors may face a “surrender charge” if they withdraw money early.
Biggins, the Rocky River attorney, said the higher front-end fees can sometimes be justified considering that an annuity is supposed to be a long-term investment
It’s like a homeowner who pays $2,500 in closing costs to refinance his home loan to get a lower interest rate. That makes sense if it’s a long-term transaction, but the consumer would not recoup his costs if he moved in six months.
Some say the commissions often are too much for too little work.
Pat Hanratty, a certified financial planner and certified public accountant with Capital Advisors Inc. in Cleve land, said his mailbox and e- mail box are littered with pitches from annuity companies offering horrendous commissions.
Annuities are good for only a small number of investors, Hanratty said, yet “some practices are selling annuities to everybody.”
Not all bad
Hurst of Millennial Group in Akron said some advisers believe annuities are the greatest thing in the world, while others hate everything about them.
“The truth is somewhere in the middle,” he said.
Hurst sells annuities when appropriate, he said, such as recently to a 45-year-old who invested about $185,000 of discretionary money. If she died and left the money to her children without it being in an annuity, they’d have tax ramifications. But in an annuity, it grows tax-free, which can continue until her children’s retirement in decades, he said.
Even Bogart said he also occasionally sells annuities, just not the kind he learned about last year in California.
Investor Dale Wagner of Boston Heights said he’s among those with a good annuity.
Ten years ago, the retired Alltel executive put 15 percent of his wealth in a variable deferred annuity. Then 55, he was already nearly maxing out on other investment options and didn’t need the money anytime soon.
Despite three years of market losses, his annuity still has doubled in value and he’s avoiding taxes on it until he withdraws any money. “We knew there was a risk with it, but I’m very pleased,” Wagner said.
William Fletcher, district sales manager for Ohio for the Ohio Savings Bank’s securities and insurance operations, said those are textbook examples of when annuities work, and said customers are flocking to annuities because of disappointing stock market returns and CD rates.
A few years ago, only 25 percent of the bank’s investment/insurance sales were annuities. Now, it’s 75 percent.
Many of the newer annuities are particularly attractive, he said. Some have genuine 7-percent-a-year guarantees if they’re kept at least 10 years and then converted to payments.
But Ohio Savings is adamant about disclosures beyond what’s required, Fletcher said. Every customer gets a one-page sheet of seven simple paragraphs that must be initialed.
Fletcher is outraged by advisers who gouge people by hiding commissions or lying about guarantees.
“I hate reps who do that,” he said. “Just because you’re not allowed to say that doesn’t mean people don’t say it.”