Let’s use an example to demonstrate the uniqueness of the insurance industry…..

There are 50 homes on your average residential block in America, for example. Let’s say that 49 of them purchase annual homeowners insurance policies to protect from theft, fire and flood. 49 homeowners share in the “risk pool” of losing their home to unexpected catastrophic events that from time to time, DO HAPPEN. 

49 families contribute annually with their premium payments to an INSURANCE COMPANY THAT PROVIDES PROTECTION IN WRITING  for something that could happen, even though each individual premium payor does not want a catastrophe to occur, naturally.

Nevertheless, the value of a home is of SUCH IMPORTANCE to a homeowner that most individuals prefer to PAY FOR PROTECTION against the loss of their home, despite the probabilities that they may ACTUALLY never need such protection. 

Now, of course, over the course of a lifetime, catastrophic events do occur. Maybe not to you, but maybe Joan down the street one day comes back from vacation to find that a water main burst and destroyed the entire first floor of her home. 

And Boom! An insurer showed up the next day with a check for $125,000 to restore, rebuild and replenish. 

Question: How did the insurer come up with the cash necessary to pay Joan the funds that she so desperately needed to fix the home? 

Answer: The insurer had been receiving premiums and investing those premiums (via the regulatory oversight of the department of insurance) from the 49 families on your block, month after month, year after year, and no claims were being processed during that time. 

Suddenly, when Joan was in her moment of need, the insurer noticed that Joan had been a willing and paying participant in the “risk pool” of PROTECTION from the risk of theft, fire and flood ! As a paid participant in this particular risk pool, Joan was LEGALLY ENTITLED to financial compensation if and when a claim for fire, theft or flood was incurred. She owned the RIGHT to specific compensation. She owned a POLICY. This policy was also called a CONTRACT. Her claim incurred an OBLIGATION on the part of the insurance company.

Joan did not own an investment; she owned a CONTRACT that protected her from something that she cared about. 

So, how does this translate to annuity ownership? 

Let’s say that your annuity purpose is to PROTECT from the RISK of RUNNING OUT OF INCOME. Let’s use the same example above. 

49 out 50 retirees on your street are also concerned about the UNCERTAIN stock market, the RISING cost of living and the fact that they might LIVE A LONG TIME. 

And so all 49 people on the block purchase a financial instrument that guarantees in writing that it WILL PROTECT THEM against the risk of RUNNING OUT OF INCOME because of the previously mentioned conditions.

This financial instrument of course, known as INCOME RISK INSURANCE, is called an ANNUITY! It is an insurance contract designed to PROTECT YOU from this particular risk.

So, what is the actual CLAIM that is being made with an income risk insurance product known as the annuity? 

The CLAIM that occurs with an income annuity is WHEN the INCOME ELECTION is made by the annuity owner at a time of THEIR OWN CHOOSING…

…….but what is so special about this income election …..? 

There are 2 things SPECIAL about your income election! 

1) The Income benefit is REALLY, REALLY HIGH! 

and 

2) It NEVER, EVER ENDS while you’re alive ! 

The EFFICACY of the annuity income benefit is something that NO INVESTMENT can be guaranteed to match. 

LIFETIME GUARANTEED CASH FLOW rates can easily be double digits (depending upon WHEN you choose income)….

Question: So you might be wondering how the insurer CAN AFFORD to pay such SUPER HIGH income benefits that mutual fund companies, nor banks, CAN EVER GUARANTEE ? 

(just as the FIRE / THEFT / FLOOD RISK insurer – in the previous example - had the CAPACITY to pay large financial sums to the claimant)

Answer: The 49 annuity owners had all paid large single premiums for their RISK INCOME INSURANCE and each of them had different timelines for when they wished to start income. Regardless of when each owner actually started income - as time continued to march on - some of these owners eventually STARTED to pass away. 

Only life insurance companies understand accurately HUMAN LIFE EXPECTANCIES. They literally plan, price and prepare financial offers to the public (products) based on their intimate awareness of MORTALITY TABLES…..In other words, Insurance Companies “literally know” to a fair degree of certitude how many insureds in their client database are going to die in any given year.

And here is the RUB why Insurers pay such high income  benefits: 

Since Insurers “know” how many INCOME RISK POLICIES WILL STOP PAYING EACH YEAR (because the insured will die and the insurer will no longer have to pay lifetime income and instead just payout the remainder of funds to the heirs), this means they can offer HIGHER BENEFITS for the remainder of the RISK POOL, ie, those who are STILL LIVING AND PARTICIPATING IN IT ! 

* If you invite 50 people to your birthday party, you therefore make enough cake for 50 people, but since YOU KNOW IN ADVANCE that 20% of people will usually not show up, there is EXTRA CAKE for everyone that does show ( crude example perhaps) 

So, If you are an INCOME RISK Contract owner, you are ENTITLED to a REALLY, REALLY HIGH BENEFIT because you are a PARTICIPANT in the RISK POOL AGAINST LOSS OF INCOME. You own a POLICY. You own a CONTRACT. You have placed the Insurer under obligation to PAY YOU A SALARY FOR LIFE. 

KNOW YOUR ANNUAL RATE NUMBER IN RETIREMENT ! 

Annuity Owners Often Get to live better in Retirement than investors who must chase HIGHER AND HIGHER returns on a dwindling pile of money in retirement. This is because they can rely on an Internal Rate of Return automatically built into their income streams. The longer that the retiree receives income, the higher the “IRR” in their annuity.

Investors, on the other hand, DO NOT UNDERSTAND the POWER of sharing in the risk pool and receiving a high IRR. They are Instead focused on growing a pile of money as their moral compass. In fact, they see the annuity as anemic when compared to their glory years of investing. 

But if they wish to spend money in retirement, it can be challenging to maintain consistently high returns on a dwindling pile. 

And this is why income annuities exist in the first place, so that this “challenge” is mitigated to the largest degree possible.

Nevertheless,  are investment -  minded retirees more right than they are wrong ? 

It is actually not a matter of right or wrong. It is a matter of risk tolerance. Annuity choices are subjective decisions FOR YOU, THE RETIREE,  TO DECIDE  to choose BETWEEN investments or contracts. In fact, I have often written that the Annuity is actually not even a financial instrument at all. It is an EMOTIONAL one ! 

If you are UNCERTAIN between what will sustain you best in retirement…..whether that be an investment or an annuity,  you must begin to appreciate the ANNUALIZED RATE ON YOUR INVESTMENTS that is MANDATORY for you to KEEP UP to the income benefits promised in your annuity policy. 

MAKE SURE THAT YOU KNOW THIS NUMBER IN ADVANCE so that you can make a healthy decision that is based on REAL MATH, at least ! 

This number will tell you :

1) Your perceived likelihood of success in retirement WITHOUT using an annuity, and:

2) The CASH FLOW RATE that you WILL GET from an ANNUITY and the likely (or unlikely) ability of your (bank, mutual fund etc.) to sustain the same income rate that the annuity ALREADY PROMISES in writing to you.

You can Know Your Number on page 35 of your quote booklet.

Many annuity agents “sell” annuities as if they were investments. And there are a plethora of reasons for this! 

• A lifetime of investing does not make it easy for investors to “switch paradigms” to the absorption of “contractual thinking”

• The annuity business is not an easy industry to make a living for annuity agents, in general. The attrition rate is quite high. For this reason, many annuity agents simply default to pitching the annuity as an investment since that is what they sense their prospects understand.

• This often results in consumers being wary of “annuity salespeople” since accumulation annuity contracts (such as index annuities) may pay larger commissions to agents. This conundrum of the agent suggesting the annuity will perform at a high rate (even though such a rate may not be contractual) creates a foggy environment in which the advice of the agent may or may not be based in the client’s self - interest. This can be No Fun for the annuity shopper !  

Investments come with PROSPECTUSES that outline the risks associated with the financial product that your securities licensed agent is providing you. These documents can sometimes be hundreds of pages long and MOST investors will rarely actually read them! 

ANNUITY POLICIES, on the other hand, come in the form of WRITTEN CONTRACTS authored by the insurer that outline in the Kings English the GUARANTEED  and NON GUARANTEED elements of your policy. These contracts are generally not as long as a prospectus and, in fact, are easier to read in some respects, especially if one recognizes the contractual nature of the document. 

Always hang your hat on the guaranteed elements of a contract, as opposed to the non - guaranteed elements.