Buyer beware: A primer on equity-indexed annuities and life settlements
By DIAN VUJOVICH
Special to the Palm Beach Daily News
Insurance products can be a great, and often necessary, expenditure for individuals and investors, never mind some lucky beneficiaries.
The industry offers a dazzling and sometimes confusing array of products and has a powerful lobbying arm. In 2009, for instance, more than $164 million was spent by the lobbying industry in Washington, D.C. So far this year the tally is roughly $44 million, according to OpenSecrets.org.
But not all insurance products, and/or the reps selling them, are scrupulous in their sales practices, disclosures or explanations regarding the intricate details behind the products. It's that underbelly and ugly side of two of this industry's investment products -- equity-indexed annuities and life settlements -- that are the focus of this Buyer Beware series.
'Insurance' exudes comfort
There's something about the word "insurance" that can lead you to believe products in this industry are safe, the risks to owning an insurance-based investment vehicle are minimal and that there will always be some financial reward for you or a beneficiary -- provided you've kept up your end of the deal.
But as with everything else in the financial arena, contracts and fine print always need to be read and thoroughly understood before any monies change hands.
Ask those burned by a product with an insurance wrapper and you're likely to hear they think the only ones making money are insurance companies and their sales people. In the case of equity-indexed annuities (EIAs) and life settlements, there could be some truth to that thinking.
Each has been red-flagged with an Investor Alert from FINRA, the Financial Industry Regulatory Authority, because of the large number of consumer complaints regarding sales scams surrounding them.
Seniors prove easy targets
The scams mostly target seniors and retirees from all income levels.
"Older people are by far the most targeted for investment fraud," says John Gannon, senior vice president of FINRA. "And while the message rings true for anyone, whether they are 21 or 91, in the older audience most people are going through significant life changes, making them more vulnerable to the fraudsters."
Gannon explains that whether it's going from employment to unemployment, entering retirement or experiencing the loss of a spouse, seniors are often faced with having to make a number of decisions for the first time regarding assets they've accumulated throughout their lifetime. That includes things like how to withdraw money from retirement accounts, or use the equity in their homes or the assets in their insurance policies.
"What we've found is many people who are targeted for investment fraud have experienced some kind of negative life event. Whether that's a health or medical issue, a financial issue or problem, those events are what potentially open them up and make them feel that they need to get a higher return," adds Gannon.
Put another way, when people have any financial worries or concerns, whether they are concerns about their personal lives or what's happening within the marketplace, no matter how large or small their estate or asset base, those worries make them more vulnerable and susceptible to making bad, inappropriate or misunderstood investment choices.
Enter equity-indexed annuities.
If equity-indexed annuities could be thoroughly explained in one sentence, they would be and the number of individuals misled by the product would be insignificant. Unfortunately, that's not the case.
"I read an article recently that said you had to have a Ph.D. and then some to really understand what's going on with equity-indexed annuities," says Michael Lavallam of Frank Crystal & Co. in Palm Beach and New York. "There are a number of moving parts in them that even intelligent wealthy individuals need to really be quite astute to follow."
While the bells and whistles to these products may be enticing, Lavallam said three things basically drive investor returns from EIAs. One is the index the product is using and how participation in that index return is calculated.
According to FINRA's Investor Alert on equity-indexed annuities, there are three ways to determine the return of a market index used: