Annuity Illustrations
Annuity Marketing, Sales Ideas, Suitability, and Issues by Michael J. Prestwich

The other day in Costco I found the small book, Jeffrey Gitomer’s Little Teal Book of Trust: How to Earn It, Grow It, and Keep It to Become a Trusted Advisor in Sales, Business, and Life. Over the years, I have found that lack of trust, or credibility, is the number one reason people fail in the financial services industry. What is worse, your prospect won’t tell the salesperson that lack of trust is the reason they didn’t buy, but they offer an excuse such as, “I want to shop around,” “the rate is too low,” or a million other things. Here is an outline of Jeffrey’s book:

·         Tell the truth. This is the number one element of trust AND relationships.

·         Do what you say you will do. This is a test for being trustworthy and reliable.

·         Communicate in a timely manner. This shows you are responsible, on top of it, and that you care.

·         Bring value beyond your product or service. What you do to help others be more successful is a true reflection of your character.

·         Be on time. Being on time shows you respect the other person’s time.

·         Be friendly. Smiling people are the gateway to open communication.

·         Be sincere. This can only come from belief in what you do, loving what you do, and caring for others.

·         Show and say genuine thanks. Be grateful for the opportunity to be of service.

·         Be consistent. I believe this element of trust is the most difficult to master because it combines all the other elements.

·         Give trust. You become trustworthy by giving trust.

This may be the best $20 you will ever spend.  Buy it, and live by its principles.

In Sunday’s “60 Minutes” interview President Obama shot down the House’s proposed 90% tax bracket on bonuses from employees of companies who receive bail out money by saying,

“As a general proposition, you don’t want to be passing laws that are just targeting a handful of individuals. You want to pass laws that have some broad applicability … you certainly don’t want to use the tax code to punish people.”

Notice that he did not condemn the concept of a 90% tax bracket. Obama has proposed a tax increase that increases the current 35% top tax bracket to 39.6%. If President Obama follows Franklin Delano Roosevelt’s lead, these tax increases may be only the beginning of a new wave of income tax increases. In 1932, and again in 1936, when faced by budget deficits caused by the Great Depression, FDR increased the top tax bracket from 25% to 79% (Source: IRS Website).

When helping clients plan their future income, annuity producers should discuss the possible income tax effect of this income, and whether annuities can help reduce these taxes.  Annuities can help your clients in the following ways:

1)    Taxes on interest can be deferred to a time when the client is in a lower tax bracket

2)    SPIA (Single Premium Immediate Annuities) that are funded with non-qualified money can produce income that includes a tax-free return of principal

3)    Although all the income from Lifetime Income Riders is 100% taxable, even from non-qualified money, those who desire a guaranteed lifetime income can lock in a high, fixed interest rate for the rest of their life

If history repeats itself, and Congress raises taxes back to the 90% tax bracket for unearned income (meaning, non-wage income), annuities have the potential of causing your clients to pay massive future taxes. Explain to your clients the problem that they may have if they defer the taxes until they die, when all the accrued interest becomes payable in a lump sum. If they want to leave their heirs a tax-free lump sum at death they perhaps should purchase a life insurance product instead of an annuity.

The point is that “taxes” is a hot topic right now, and is the perfect door-opener to tell your story to your clients, prospective clients, and their income tax advisors.

• Married, Joint Return
  1. Tier 1: $32,000
  2. Tier 2: $44,000
• Single
  1. Tier 1: $25,000
  2. Tier 2: $34,000

If your client has defined benefit pension or other fixed income above Tier 2, they cannot avoid paying taxes on Social Security. If they have no non-qualified money, they usually cannot avoid paying taxes on Social Security without reducing their income. However, here is an example of a married couple who filed a joint tax return and used annuities to reduce their Social Security and ordinary income taxes (2007 tax rates):

Helping someone save over $7,000 on their taxes may look “too good to be true” but it is actually well within the ability of most annuity producers:

1. $500,000 safe assets generates $15,000 in taxable interest
   1. Use $65,000 to buy a 5-Year Single Premium Immediate Annuity to generate $14,000 income per year
   2. Put $385,000 in several deferred annuities to provide future income
   3. Leave $50,000 in a money market fund for emergencies
2. The $40,000 this couple is taking from their 401(k) is higher than the Required Minimum Distribution (RMD) — reduce it to $25,000

Smart agents will work with the client’s accountant to work the above numbers and to create the ideal product mix. The key is to get the taxable income as close to the Tier 1 income as possible. This has at least four advantages:

1. The accountant’s OK adds credibility to your sale
2. The accountant will earn extra fee income
3. If product suitability is ever an issue, you have the accountant as a friendly witness
4. The accountant has other clients that need your help — excellent referrals

In summary, this idea created a $65,000 SPIA sale, $385,000 in SPDA sales, and opened the door for an IRA rollover from the client’s 401(k).

Yesterday an agent asked me to compare three similar fixed indexed annuity products, each with an annual point-to-point interest crediting method, but with the following differences:

·         Surrender Charge durations of 7, 10, and 14 years

·         Bonus Rates of 0%, 5%, and 11%

·         Current Participation Rates of 8.90%, 7.80% and 7.80%

Often products with a premium bonus show higher values after 15 years, but if your client needs their money in 5 to 10 years, most of these products carry sizable surrender penalties. Since this particular insurance company pays an additional 1.10% interest rate on the non-bonus product, it is difficult to determine if the bonus products actually will deliver the highest values to the customer.

This spreadsheet compares the year-by-year surrender value of the above three products using hypothetical changes in the value of the index.  If you sell similar products, I encourage you to customize this spreadsheet to help your clients decide which product, or blend of products, best fits their needs.

I will let you decide which is the best income plan for a hypothetical sixty year-old man in a 25% tax bracket who wants the highest lifetime income from $100,000 starting in five years:

Plan A: Certificates of Deposit

$100,000 at 4% interest, less 25% taxes, grows to $115,927 in 5 years. He lives off the interest, $4,637, pays $1,159 taxes, and enjoys a non-guaranteed lifetime after-tax income of $3,478.

Plan B: Indexed Annuity With Income Rider

The $100,000 grows free of taxes for five years then provides $7,040 guaranteed lifetime income at age 65. He pays $1,760 each year in income taxes and enjoys a $5,280 guaranteed lifetime income. (See slide 23 in the PowerPoint training seminar designed by the insurance company for licensed agents.)

Plan C: “Laddered” or “Split” Annuity

$100,000 is divided into three annuities that grow free of taxes for five years:

1.    $24,862 - Five Year Guaranteed Rate Annuity at 4.90%

2.    $23,587 - Ten Year Guaranteed Rate Annuity at 5.00%

3.    $51,550 - The same Indexed Annuity as Plan B above

This plan qualifies for the exclusion ratio so most of the income is tax-free. At age 65, this plan guarantees $7,020 annually, $6,508 after-tax, for five years; at age 70, it guarantees $8,541 annually, $7,584 after-tax, for five years, and finally, at age 75, it generates a $10,793 guaranteed lifetime income ($2,698 taxes, $8,095 after-tax).

So which plan is better after 15 years?

Plan A: $34,780 “maybe” after-tax income; $100,000 likely remaining in account

Plan B: $52,800 guaranteed after-tax income; $61,869 guaranteed amount in indexed account (guaranteed values calculation detail)

Plan C:  $70,460 guaranteed after-tax income; $70,676 guaranteed amount in indexed account (see last page of split annuity illustration for details)

Plan C has double the income of the CD and also outshines Plan B. Plan C, the three product plan, gives the client more flexibility, more access to his money, higher guaranteed income, and better tax advantages.

The agent also benefits; a higher, guaranteed, after-tax income is easier to sell. Shorter surrender charges make this concept easier to defend as a suitable sale. The commission is less in the first year, but since there is a built-in new commission every five years, the 15 year total commission is actually higher.

After 30 years, when the client is age 90:

Plan A: $86,950 “maybe” after-tax income; $100,000 likely remaining in account

Plan B: $132,000 guaranteed after-tax income; $0 guaranteed amount in indexed account (guaranteed values calculation detail)

Plan C:  $191,885 guaranteed after-tax income; $0 guaranteed amount in indexed account (see how income riders work)

It is important to mention that the indexed annuity may perform above its guaranteed interest rate and that the client may have a positive balance in his indexed account at age 90.

Seniors have heard the “high rate of return” story for fifty or more years. Most of them have been burned by this tale at one time or another and they are tired of hearing about it. Today most seniors are interested in four things:

1)    Safety

2)    Guarantees

3)    Tax Advantages

4)    Income

Why would they be interested in hearing about growth when millions of people just lost their shirt to this story?

It took 18 years for the market to recover from the 1929 crash – how many seniors can wait that long?

Obama promised to raise taxes on those who earn $50,000 or more – why not use this as a door-opener?

Forget accumulation values – focus on Income, Guarantees, Tax Advantages and Safety!

Closely examine a sample Flexible Income Stream illustration from ImagiSOFT.

Did you know that in most states that agents can lose their insurance license if they sell using illustrations that do not give the guaranteed values the same emphasis as the illustrated or hypothetical values? This illustration does just that – and I recommend that you spend the majority of your time talking about the guaranteed values and mention the illustrated values in passing, rather than the other way around.

If I were presenting to the 65 year-old John J. Smith, I would ask him this question, “Which would you rather have, an annual $9,000 after-tax income per year, guaranteed for only 5 years (his current certificates of deposit)    - or -    $11,700 after-tax income guaranteed for the next five years, guaranteed to increase to $14,200 for the next five years, guaranteed to increase in year 10 to $17,200? (See the second to the last page of the previously mentioned illustration.)  In short, which would you rather have, $135,000 of “maybe income” or $216,000 of guaranteed income over the next 15 years?

The last page shows the “Grow Back Account,” a fixed indexed annuity, illustrated at 5% interest, which may bring the account back to $303,000 after 15 years. Again, I recommend that you emphasize the guaranteed value of $189,500.  If the Guaranteed Lifetime Income Rider is elected, starting at age 80, this account will generate $33,765 each year for the rest of John J. Smith’s life.

In summary, why is this income strategy a suitable, high-quality sale?

·         John J. Smith is currently using $300,000 CDs for income to generate an income of $12,000 per year

·         This income is fully taxable. In his current 25% tax bracket, he must pay $3,000 per year

·         His primary goal is safe, dependable income

·         The interest rate is guaranteed at 4.00% for five years, and thereafter, renewal rates are uncertain

·         He is in good health with a family history of long life

·         Annuities lock-in a safe, dependable, predictable, guaranteed, income for 15 years

·         Annuities provide this income 90% tax-free

·         This annuity strategy guarantees an income increase every 5 years

·         After 15 years, the last component of this strategy guarantees $33,765 annual lifetime income. This is nearly three times the current income generated by the certificates of deposit – with an extremely high degree of safety

·         If John’s future goals change, this strategy offers three different surrender charge schedules – one as short as five years long

Focus on Income, Guarantees, Tax Advantages and Safety, and I guarantee you and our annuity customers will have a prosperous 2009!

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Yesterday an agent shared a great idea with me. His door opener is, “Do you want to pay Uncle Sam or would you rather pay yourself?” Here’s how his idea works:

Many seniors have set aside some money for a “rainy day” that they hope they will never have to use. Most of this money is in safe, fixed, taxable accounts such as bank certificates of deposit. Let us assume the following situation: John Jones, age 70, has a $100,000 CD earning 4.00% interest. Since John is in a 25% tax bracket, he pays $1,000 in federal income taxes, or “Uncle Sam,” each year on this interest.

“If you could pay yourself that $1,000 per year, instead of Uncle Sam, and not sacrifice the growth you would have on the CD, would you do it?” The following illustration created by ImagiSOFT’s Flexible Income Stream software Pay_Uncle_Sam_or_Pay_Yourself.pdf shows the numbers and summarizes the products used in this concept.

The agent divided the $100,000 into two products:

·         $8,140 into AIG American General’s SPIA which is guaranteed to pay $1,000 per year for 10 years

·         $91,860 into Great American’s American Legend II fixed indexed annuity with 100% allocated to the point-to-point strategy with a 100% participation rate and a 9% cap.

The Flexible Income Stream illustration shows the guaranteed values (worst case) after 10 years at $10,000 income plus $123,452 accumulation. That compares well to the $134,392 balance in the CD after 10 years.

The agent used a 4.00% “Illustrated Rate” on the Flexible Income Stream’s report for several reasons:

1.    It has a reasonable probability of being achievable

2.    At 4% interest, the annuity will have a higher value after 10 years than the CD would have had

3.    Insurance departments are taking a suspicious look at illustrations right now – it is best to be conservative

4.    Customers who buy annuities are conservative – they appreciate agents who use conservative, realistic, projections

5.    This product includes a guaranteed lifetime income rider – even if the product returns 0% per year, the customer has the option of taking a $10,288 annual income for the rest of his life. This may be an attractive option in 10 years, at age 80, if this customer is in good health.

The agent backed up the Flexible Income Stream illustration with a SPIA illustration from AIG American General and two illustrations by Great American. The Great American Illustration system allowed the agent to create two hypothetical historical illustrations based on two dates:

1.    A “low” scenario using January 1, 1973, where Watergate, the Oil Embargo, and the Iran Hostage Crisis all came into play

2.    A “high” scenario using January 1, 1988 where the market recovered from the drop on “Black Monday,” October 19, 1987 and the technology boom of the 1990s. 

Two or more illustrations that show extreme lows and extreme highs can help the customer understand that the future is uncertain and that there is no real way to “project” what an indexed product will achieve in the future. It also prepares them to expect some years with a zero percent interest rate in the future.  Always highlight the guarantees as a “worst case” because it is entirely possible that is all that an indexed product will return. (Agents who differ with this statement should look at the graph created by Great American’s software of the 3% Monthly Sum strategy based on a historical January 1, 1973 date. During this 10 year period, this strategy would have returned a paltry .43% hypothetical annual interest rate – more than $20,000 less than the guaranteed minimum surrender value. Their software is an invaluable tool for agents to compare several interest crediting strategies in a realistic, straight-forward, way.)

 In summary, this sale qualifies as a “suitable sale” for the following reasons:

1.    The agent asked lots of questions about the client’s financial situation, assets, income, and tax situation; the client’s timeframe for using the money in the certificate of deposit is 10 or more years in the future

2.    The client wants to reduce his income tax liability by $1,000 per year

3.    The guaranteed values are on par with the values of the certificate of deposit

4.    The liquidity in the annuity is acceptable to the client – 10% free withdrawal, plus a 7 year surrender charge period

5.    The point-to-point index strategy was explained and understood by the client

6.    The client expects to receive about a 4% future rate of return from this annuity, with the chance of receiving something slightly higher

7.    The client’s money is in a safe place, with a guaranteed minimum interest rate

8.    The annuity product has the option of being converted to a guaranteed lifetime income

9.    The client receives a $1,000 per year income payment instead of a $1,000 per year tax bill 

Supplemental graphs, from the Great American illustration system, used to make the sale:

Exhibit 1: Low Interest Scenario

Hypothetical point-to-point strategy, January 1, 1973, 100% participation rate, 9.00% cap, 0% spread 

Major point of this graph: An indexed annuity is designed to protect the policyholder against major drops in the market index. Annuities protect the policyholder against a loss of principal. In 1973 the market dropped by about 20% followed by another drop of about 30% in 1974. In those years a 0% interest rate would have been a blessing! Hypothetical average rate of return for this 10 year period: 4.08%.

Exhibit 2: High Interest Rate Scenario

Hypothetical point-to-point strategy, January 1, 1988, 100% participation rate, 9.00% cap, 0% spread 

Major point of this graph: Because of the “cap” an indexed annuity will not capture the high returns of an extremely aggressive market; however, during these periods, they are designed to deliver a higher than average interest rate. This was one of those rare time periods where the index returned only two zero percent interest rates in a ten year period. Hypothetical average rate of return for this 10 year period: 6.10%.