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Turning your stocks, bonds, or mutual funds into cash is easy. But what about an
annuity? If the annuity is deferred, you might have to pay steep surrender fees
to cash out. In the past, if it had already started making payments, you were
stuck with it.
Not anymore. A nascent secondary market for annuities is emerging, giving
investors the opportunity to sell what was once un-sellable or cash in their
policies for more than the insurer would give them. These transactions may
appeal to you if you no longer need the income from the policy or would rather
get a lump sum for another use. "We estimate that up to 10% of annuity holders
would sell their policies if they could," says Michael Vaughan, a managing
director of J.G. Wentworth, one of a handful of firms that buy annuities from
individuals. In fact, an American Council of Life Insurers (ACLI) survey of 460
annuity holders reports that 27% are concerned that they may be unable to sell
their annuity if they want the money for something else.
Wentworth, along with Peachtree Settlement Funding, Settlement Capital, and
Stone Street Capital, are branching out from their traditional business of
purchasing structured settlements. Such deals allow those individuals who have
received annuity-like payouts in court cases to get a lump sum.
It’s always a good idea to put money in a secure investment for retirement…but
the dark secret about annuities as investments for individual investors is their
lack of liquidity. When a change in circumstances or goals requires that seniors
sell their annuities, they often find out too late that they have no alternative
and are stuck. "The analogy," says Michael Vaughan, a managing director of the
J.G. Wentworth Annuity Purchase Program, "would be if investors bought mutual
funds from Merrill Lynch, but then found out that they can’t sell them back to
their broker."
The firms package the purchased annuities into asset-backed securities and sell
them to institutional investors. It sounds straightforward, but "it's a
complicated, unregulated new field, and there are so many variables which make
the calculations extremely complex and not transparent to the consumer," says
David Woods, chief executive officer of the National Association of Insurance &
Financial Advisors. He suggests that if you're considering this option, "find an
insurance expert or actuary to run the numbers to see if you're getting a good
deal."
Linda Lanam, the vice-president of annuities and market regulation for the ACLI,
recommends that you first approach the insurer that sold you the annuity. "There
may be more flexible options in your policy than you originally thought," she
says.
Even with this new market, not every policy can be turned into cash. Those
tucked away in tax-qualified retirement accounts are ineligible because the
Internal Revenue Service won't allow ownership to be transferred. Also
off-limits are so-called life-only immediate annuities, in which the payout is
not guaranteed.
In an annuity sale, the price you fetch will be based on the total dollar amount
to be distributed, the time period over which the payout will be made, and the
current level of interest rates. Other considerations include the insurance
company's financial strength rating and particular terms and conditions such as
whether the policy has a death benefit.
Take John, a 66-year-old who owns a single premium annuity that is guaranteed to
pay for at least 20 years. If he dies before then, the remaining payouts go to
his heirs, and they would be taxed on the built-up interest in the annuity at
their current income tax rate. (The value of those payments is also included in
the estate tax calculation.) John bought the policy for $1.58 million in
December, 2001, and began getting monthly payments of $7,865 immediately. Four
years later, John decided that he didn't need all of the income and wanted to
recapture some of the principal.
With the help of his financial adviser, John sold $4,000 of his monthly payments
for the next 194 months, for a total of $776,000. Since that's to be paid out
over 16 years, the annuity buyers applied a discount rate of 7.76% to the total,
so John ended up with a $448,910 lump sum. (The discount rate is a key number.
Be sure to ask the buyer what it is.)
Using the proceeds, John bought a life insurance policy with a $1.66 million
death benefit, which would pass to his beneficiaries tax-free and not be
included in his estate. "He turned taxable money into tax-free money and was
able to get funds that were otherwise locked up," says Michael Giffin, a
financial planner in McMurray, Pa., who has sold many annuities for clients. For
a fee of $150, Giffin will analyze bids for clients.
In the case of a deferred annuity, a 67-year-old woman had originally invested
$75,000 in late 2000, and it's now worth $106,433. But she couldn't get that
amount as a lump sum; she could only take it out in payment over a minimum of
five years. Surrendering the policy to the insurer would have netted her just
under $80,000. By selling to Wentworth, she was able to get $94,346 -- before
taxes.
Another scenario involves an inherited annuity. Earl, 48, inherited an immediate
annuity after his father died. Earl's father had bought the policy, which paid
out $262 monthly, to provide retirement income for himself and his wife. When he
died, there were still 10 years of monthly payments left, but Earl wanted to put
the money toward his children's college fund. So he sold the remaining 120
months for a lump sum of $20,450. The annuity buyers applied a discount rate of
9.6% since the total of $31,440 is to be paid out over 10 years
About J.G. Wentworth
J.G. Wentworth, is the nation’s oldest, largest and most respected buyer of
annuities. For more than 14 years, J.G. Wentworth has been purchasing annuities
as well as other deferred payment streams. During this time, the company has
purchased over $2 billion of future payment obligations. The company’s
annuity-backed notes are rated AAA by Standard & Poor’s and Aaa by Moody’s and
sold to institutional investors.
www.jgwfunding.com/annuities.asp.
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Annuity Exit Strategies
