Nearly one-half of all variable annuity sales are in individual retirement account (IRA) rollovers, according to the National Association of Variable Annuities, Reston, Va.

But should retiring executives fund IRAs with variable annuities, which already are tax-deferred?

Experts say there are both advantages and disadvantages.

A variable annuity is a contract with a life insurance company that lets you invest tax-deferred in mutual funds. When you retire, you have the option to withdraw funds or annuitize the contract so that you get periodic income for life. Variable annuities also come with death and living benefit guarantees that protect principal value.

At least one insurance executive says putting a tax-deferred investment into a tax-deferred IRA account makes sense. Investors are not buying the product for tax deferral, says Brandon Buckingham, director of qualified plans and special markets attorney for John Hancock Annuities in Boston. Rather, they're seeking the insurance guarantees.

Those guarantees include:

* Guaranteed Death Benefit. When the policyholder dies, his beneficiaries are guaranteed to receive the principal or market value of the annuity, whichever is higher.

* Guaranteed Minimum Withdrawal Benefits (GMWB). With this rider, you needn't annuitize. It guarantees a return of at least 100 percent of the contract's contributions in the form of regular withdrawals paid over a specific period. This guarantee comes regardless of how the mutual funds perform.

The most popular type of GMWB offers a "For Life" component. Usually, this guarantees a five percent withdrawal rate for life starting at age 65 -- regardless of market performance or how long the investor lives.

Buckingham adds that some of the GMWB "For Life" riders don't conflict with IRA required minimum distribution rules either. This means that the 5 percent GMWB balance in the account won't be affected even if IRS rules require the investor to take a higher minimum required distribution. The reason: this guarantee acts as a floor against investment losses, because the investment balance needed to generate a 5 percent annual return does not decline in value. It is insured.

* Guaranteed Minimum Income Benefit (GMIB). This lets the retired executive annuitize the contract and receive a guaranteed dollar amount in monthly income -- regardless of how the contract's investments perform. Buckingham adds that annuities in IRAs may assist wealth transfer strategies. For example, a stretch strategy using a variable annuity with a guaranteed death benefit lets the beneficiary take distributions in installments over his or her life expectancy. The undistributed amount continues to grow tax-deferred. Of course, this would be true for mutual funds, too. But it's good to know that a stretch strategy can be used with a the variable annuity inside an IRA.

Despite the attractive variable annuity insurance features, some financial planners don't like them for IRAs. Buckingham adds that some of the GMWB "For Life" riders don't conflict with IRA required minimum distribution rules either. This means that the 5 percent GMWB balance in the account won't be affected even if the IRS rules require the investor to take a higher minimum required distribution. The reason: this guarantee acts as a floor against investment losses, because the investment balance needed to generate a 5 percent annual return does not decline in value. It is insured.

* Guaranteed Minimum Income Benefit (GMIB). This lets the retired executive annuitize the contract and receive a guaranteed dollar amount in monthly income -- regardless of how the contract's investments perform.

Buckingham adds that annuities in IRAs may assist wealth transfer strategies. For example, a stretch strategy using a variable annuity with a guaranteed death benefit lets the beneficiary take distributions in installments over his or her life expectancy. The undistributed amount continues to grow tax-deferred. Of course, this would be true for mutual funds, too. But it's good to know that a stretch strategy can be used with a the variable annuity inside an IRA.

Despite the attractive variable annuity insurance features, some financial planners don't like them for IRAs.



"Variable annuities are sold, not bought," says Jane King, president of Fairfield Financial Advisors in Wellesley, Mass. "Insurance companies are using scare tactics. If you die, you get your money back.

But what does this cost?

King says variable annuities are expensive, particularly those sold by brokers. . The average variable annuity charges 234 basis points annually. This charge includes a mortality and expenses fee and mutual fund management fees. Tack on a GMWB or an enhanced death benefit guarantee, and total annual charges can range from 250 to more than 285 basis points.

The cost is not worth it, she believes. Reason: many insurance companies require policyholders to diversify their variable annuity policies in stocks and bonds. They can't keep 100 percent in stock funds and benefit from double-digit equity returns in up markets. As a result, the net return, after expenses, on a variable annuity is not very attractive.

For example, a 60 percent stock and 40 percent bond mix historically has grown at more than 8 percent annually since 1926, according to Ibbotson Associates, Chicago. Subtract from that 8 percent return 2.85 percent in annuity charges, and the annual rate of return drops to 5.15 percent.

After fees are deducted from a variable annuity, people may end up with about the same low return as federally insured bank CDs.



King doesn't recommend retirees invest their IRA rollover in CDs or variable annuities. Instead, she recommends they invest rollovers in a diversified portfolio of low-cost no-load stock and bond funds. The net rate of return on a portfolio of no-load mutual funds is more than the return on a variable annuity. Plus, portfolio asset allocation reduces the risk of losses if the stock market declines.

What about the use of no-load variable annuities? Even no-load variable annuities offered by investment companies like Vanguard, Fidelity Investments and T. Rowe Price are still too costly to be put into an IRA. No-load annuities still charge an annual mortality and expense charge of about 100 basis points in addition to fund management fees and administrative fees. The total cost for a no-load annuity can run nearly 2 percent annually or more depending on the management fees of the funds selected by the policyholder. Plus, no-load annuities typically don't offer living benefit riders. They only come with standard death benefit guarantees.

The bottom line with IRA rollovers invested in variable annuities: retirees must ask themselves if the cost insuring their principal is worth it. Some safety-minded investors may want the security of insurance guarantees before they invest in equity mutual funds.

-- Alan Lavine is co-author with his wife, Gail Liberman, of Rags to Riches, Motivating Stories of Ordinary People Who Have Achieved Extraordinary Wealth, Dearborn, 1998.

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