"Indexed" Insurance Products can Mislead Investors

July 31, 2015


A popular form of Annuities and Life Insurance is the so-called "Indexed Annuity" or "Indexed Life Insurance Policy".  But what are these and are investors getting what they think they bought?


Here are some basics: When an investor buys an annuity or life insurance policy from an insurance company, costs such as state taxes and agent commissions get paid.  In a life insurance contract, the remaining money gets invested.  In an annuity, almost all the money gets invested; the commissions usually come out yearly, but well  hidden inside the contract's results.  There are a myriad of policies and investments available.  The "Indexed" product is just one of the many choices.


A buyer of an "Indexed" product gets an interest credit each year from the insurance company equal to the gains on an underlying index, such as the S&P 500 index (Large cap US stocks).  Therein lies a few issues.  To begin, often insurers do not include reinvested dividends as part of the index calculation.  Dividends account for a major portion of the returns on stocks.  Further, there is usually a cap on the increase each year.  But as compensation, there also is usually a floor protecting the investor from losses.


Insurers have gotten in hot water lately especially from Sen. Elizabeth Warren (D-Mass).  She is probing the sales incentives of insurance agents which can range from high commissions to extensive travel promotions for high sales.  Also under scrutiny are the illustrations of these products showing returns of 8 to 10% per year.  Fortunately a new guideline adopted by the National Association of Insurance Commissioners would limit the illustrations to a maximum of about 7% per year.  That amount is still dangerous excluding dividends and accounting for the costs of a policy.


Investors also need to keep in mind that their money is not actually invested in any stocks or mutual funds.  The insurance company merely credits an amount to their accounts.  The Insurance company may offset some of its risks by using derivatives or other products as part of their investment strategy.


Also beware of the long surrender (penalty) periods for these contracts-they can run from 3 to 16 years and average about 10 years.  



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