A member of my extended family I’ll call Don has been hit with a hard sell to buy into a Manulife Financial’s IncomePlus annuity. This makes the recent articles from Canadian Capitalist about the cost of IncomePlus, comparing it to an all-bond portfolio, and the importance of stock dividends in the IncomePlus analysis quite timely for me.
IncomePlus is essentially a portfolio of mutual funds with very high MERs combined with an insurance component that adds even more fees. For an overall cost of about 3.5% each year, Don is guaranteed payments each year for the rest of his life of at least 5% of his original investment. For the first 20 years, this is just a guaranteed return of his inflation-ravaged capital.
If Don’s portfolio happens to grow despite the 5% withdrawal and 3.5% fee each year, there are defined times every three years when the portfolio locks in the gains, and Don’s guaranteed yearly income rises to 5% of the new portfolio size. Don would be counting on such gains just so that his income would keep up with inflation.
For Don’s income to match inflation, the mix of investments in his mutual funds would have to grow in value each year by inflation plus the 5% withdrawal plus the 3.5% fees. With a 75/25 mix of stocks and bonds, and if bonds beat inflation by 2% each year, stocks would have to beat inflation by about 11% each year. This is not likely over a long period of time. So, Don is not likely to keep up with inflation unless he dips into his capital and reduces future guaranteed returns.
Even using investments such as low-cost exchanged-traded funds (ETFs), it is difficult to design portfolios that provide investors with complete peace of mind due to longevity risk, inflation risk, and the risk of declining stock prices. Insurance companies can have a role to play in eliminating longevity risk, but any benefits to investors in the case of IncomePlus are more than offset by the ultra-high fees.
Seeing a bar chart of income stretching on indefinitely without ever going down is comforting only as long as you don’t think about inflation. If these charts were changed to take into account a plausible level of inflation, they would cease to be persuasive.
Canadian Capitalist asked “why then are advisors pushing their clients to buy these products?” I suspect he knows the answer, and it became clear to me after listening to Don. Don is contemplating a last decision about all of his savings. This includes not only the money controlled by the advisor who is pushing IncomePlus, but also his other retirement accounts. This advisor is going for the chance to get control of all of Don’s money for the rest of his life. That would give the advisor a big commission immediately and additional trailer fees indefinitely.
As far as I’m aware, Don hasn’t made a decision yet. I don’t like to tell people what to do with their money, because they know their business better than I do. But, it’s not hard to tell where I stand on IncomePlus.