Chip Stapleton: Taxes, Fees & Commissions To Consider With Annuities

Welcome to the Annuity.org Podcast, your path to financial freedom through better understanding annuities, selling structured settlements, personal finance and retirement planning.

I’m Terry Turner, and on this episode, we’re continuing our conversation with one of our expert contributors here at Annuity.org, Chip Stapleton, financial advisory manager at airCFO. Chip has expertise in corporate finance, financial planning, investing, life insurance, strategic finance and technical analysis. We’re going to discuss some ways to turn part of your retirement plan savings in an IRA or a 401(k) into an annuity income stream for retirement. We’re also going to be talking about some of the tax issues to be aware of with annuities, and fees and commissions to be aware of when buying an annuity. Thanks for joining us, Chip.

It’s my pleasure.

Now, if you’re retired and you want to take some of your IRA or your 401(k) and use it to buy an annuity, what are the tax issues that people need to be aware of?

You can do it on a tax, with no tax consequences, if you just want to take that money and buy an annuity. Inside your IRA, it’s very easy. You just talk to your financial advisor and go, “Hey, some of this money I want to use to buy an annuity, can you help me through that process?” And they can do it, and that IRA can hold the annuity. With a 401(k), I’m not sure how possible it is. You’d have to talk to your 401(k) specialist, but you can always roll some of that money from your 401(k) over into an IRA and then purchase the annuity inside the IRA. That’s how I have done it in the past, but I know there have been some rule changes lately where that could impact the ability to do that. So I’d always talk with your financial advisors, they’re going to be up-to-date on all the rules and regulations to help you with that process.

How do annuities compare to other retirement and investment instruments when it comes to taxes? Are they more straightforward, less straightforward? Where do they fit on that spectrum?

Annuities are fairly complicated instruments. When you start adding in terms and guarantees to it, it can very complicate how that product works inside your financial world and how you can best utilize it. From a tax perspective, it’s going to function, when you take money out, very similar to taking money out of a traditional IRA or 401(k), where all the money you take out of it is going to be taxable to you at your normal income rates. From that standpoint, it’s going to be treated very similarly from an income standpoint, but it’s going to be fairly similar on a qualified basis to your IRA or to your 401(k).

Let’s talk a little bit about fees and commissions. What should you know about the various fees and commissions when buying an annuity?

So this is a very hot topic among annuities right now. A lot of times, that’s why a lot of advisors will kind of advise against annuities because the fees that are associated with them and the commissions inside of it. So, it’s very important that when you’re purchasing the annuity, whether you’re purchasing it from an advisor or a company, that you understand and have them disclose every aspect of the fees that are built up inside of it. Either those are annual fees, whether that’s investment fees or expense ratios inside the investments you choose for a variable annuity, or your mortality and expense fees, which are going to make sure the policy stays in force for longer periods of time. Those fees are going to be there throughout the life of the products. Being able to understand them and know them upfront can help you make a good decision.

For instance, variable annuities, a lot of times, you’ll see fees from investment fees and expense ratios and the M&E fees that could easily be 4% to 6% per year, which is drastic. You look at index funds, you can have a total out-of-the-door fee of 0.15%, so you’re talking 500% more, 400% or 500% more, in fees, which can have a drastic impact on your total account balance. But then, you have to understand what exactly are those fees paying for? And then, if you can look at the value that those fees provide, maybe through downside protection, through guaranteed income, through things like a guaranteed income base that grows over time, and make sure, if you are paying those fees, that the value that you’re getting for them is worth it. If it’s not worth it, then the annuities are not the right product for you, or that annuity is not the right product for you.

How should a person go about determining whether all these fees are just too costly for what they’re going to get out of it?

I would always recommend, with products that are as complicated as annuities, speaking with a trusted financial advisor, and having someone that you know and trust that will be honest with you, that is a fiduciary, whether that’s a certified financial planner, a CFA® charter holder, someone that is obligated to work in your best interest, and helping you guide through that process, whether or not the value for what you’re paying is worth it. Now, what you can do from there if you don’t have someone like that, there is a way you can do it on your own, but again, the complexities inside the project and how it fits inside your world, having a trained licensed professional whose job it is to understand those complexities and be able to explain it to you is going to be highly recommended.

Are there any fees out there that should raise a red flag that you need to be aware of when you’re shopping for an annuity?

Pay attention to the mortality fees, so the noninvestment-related fees. So, those are going to be fees that the insurance company charges to just manage the product as a whole and manage the guarantees. If those fees are high, talking to a professional about, why are those fees so high? Are there similar products that carry lower fees, that have similar guarantees? What is it about this product with this particular annuity issuer that makes these fees so high? And then, they’ll be able to help you through that. But usually, with red flags, it’s going to be less about the type of fee that it is, and more about, how big is that fee? And is it worth it, or are there products that can better fit my world? Are there annuities or nonannuities that can better fit what I’m trying to achieve? So again, annuities are not for everyone, they’re not going to fit everyone’s financial profile, but they can be incredibly powerful products. Even with those 4% to 6% fees that I mentioned earlier, they can still fit inside your world, if you understand how to use them.

Thanks very much for joining us, Chip.

It’s my pleasure, and thank you for having me.

And thank you for joining us on the Annuity.org Podcast. For more information about annuities, personal finance, anything else we talk about here, check out Annuity.org, your path to financial freedom. You can subscribe to the Annuity.org Podcast for free, available wherever fine podcasts are found. Thoughts and opinions expressed in this podcast are strictly anecdotal and should not be taken as financial advice. Views of the interviewees do not necessarily reflect those of the author, editor or Annuity.org. Our theme music, Feeling Good, was produced by White Hot, available at freebeats.io. I’m Terry Turner for Annuity.org.