By Kelly Robinson, Spring 2016 Student Intern
Annuities aren’t designed for everyone. Like many other financial products, annuities can be used as a mechanism to perpetuate fraud. In our previous posts about annuities, we touched on the subject of fraud, but this week we will take a comprehensive look at the tactics used to target potential victims and the ways you can avoid becoming a victim yourself.
Bad Agents. While the majority of agents and brokers in the world are honest people, annuities can offer incentives that can put their interests before yours. For instance, annuities, especially variable annuities, can have very high commissions associated with them. Sometimes these commissions can be as large as 10%. This creates an incentive for a broker to be dishonest in telling the investor what the best course of action is for their needs. For example, an agent may push the sale of an annuity when one is unnecessary. If someone is already collecting social security or has a pension, they already have an annuity that pays them for life. For this investor, an annuity could add unneeded and expensive bells and whistles while further increasing the risks and costs. Another example would be an investor who is looking for a guaranteed fixed rate of return. He will not want a variable annuity, as that exposes the investor to market risk, however, if he is a less knowledgeable investor, then he might be swayed to purchase the unsuitable variable annuity. Unbeknownst to him, the broker is earning a hefty cash bonus for its sale behind closed doors.
Poor Companies. Another risk lies in the company themselves. If you purchase a fixed annuity, but the company isn’t around by the time your payments start, there is a major issue with recourse for you or your beneficiaries. While there may be some state regulation, if the company fails, the FDIC, SIPC, and other federal agencies won’t guarantee your annuities. Another issue, aside from the bankrupt company, is the fake company. This issue often arises with charitable annuities, in which the charitable organization does not actually exist or the funds are not actually invested in the charitable organization. Instead, the money is either placed in other investments (like high-risk investments with high commissions), or is pocketed by the fake agents.
The best way to hedge against these types of risk is to research your broker or agent using your state regulatory agency and/or FINRA’s BrokerCheck database. These databases will give you information about your firm or agent such as what licenses they hold, what complaints they’ve had, and whether they are registered to sell the product in your state. It is also always a good idea to get a second opinion of someone who is unrelated to the industry, but still has some knowledge about the type of product.