Inflation-Adjusted Annuities: How Do They Work?

Hi there. Stan The Annuity Man. Today, we're talking about inflation-adjusted annuities, how they work, if they're too good to be true, if they're better than sliced bread, and more.

With any type of annuity sales pitch, if it sounds too good to be true, it is every single time, without exception. There are no exceptions whatsoever. Annuities are contracts. I get a lot of calls about inflation-adjusted annuities because everybody's worried about inflation. That's like the gorilla in the room. Inflation, hyperinflation. I get all these calls about inflation. The bottom line about annuities and inflation is this. There's not a perfect annuity type that solves for inflation, even though you'll hear about that annuity, supposed annuity type at the Bad Chicken Dinner Seminar or Expensive Steak Seminar or by your local advisor agent. They'll tell you that they have the annuity that'll solve for inflation and adjust for inflation. That's perfect for inflation. No, your top agent in the country; if I had it, I'd already be telling you about it. I don't. I represent all carriers, but what we're going to do is we're going to go into the inflation-adjusted sales pitches out there and give you the good and the bad and the ugly and the brutal truth about them so you can make a good decision. Not buying the dream, not buying the unicorns chasing the butterflies, not buying some sales pitch that sounds really, really good because at the end of the day, you already own the best inflation annuity on the planet, and that's called Social Security. So, hang in there with me.

Inflation

Inflation-adjusted annuities. Inflation is like the scare tactic that the financial media uses, "There's going to be inflation. You got to prepare for inflation." No product can perfectly track it. Nobody knows what's going to happen. It's kind of like interest rates. Everybody talks about how they know where they're going to go. They really don't. Inflation's the same thing.

People have been predicting inflation for the past three or four years with some pundits. The bottom line with annuities is that you can attach contractual inflation-type benefits to a policy. But just remember, annuity companies have the big buildings for a reason. They do not give anything away at all. There are no philanthropists at annuity companies. There are no CEOs at annuity companies that wake up and go, "You know what? I really like America, and I really like Americans, and I just want to give away money." No, they don't do that. They price it in.

When I tell you that you already own the best inflation annuity on the planet, you do. Social Security increases payments based on the political whims of our lovely DC politicians in the House and Senate. They just increase them. They just print money. Annuity companies don't do that.

Annuitized Products

So, let's talk about the first inflation annuity type you can buy. There are product types like Single Premium Immediate Annuities, Deferred Income Annuities, and Qualified Longevity Annuity Contracts. Those are annuitized products, which are a way to get an income stream. Return of principal plus interest is all annuity payments for a lifetime income. But with those three products, you can attach what's called a COLA. COLA stands for Cost-of-Living Adjustment.

Cost of Living Adjustment

So, you can attach a COLA Rider to the policy at the time of application. You can't attach it afterward, but here's how it works at the time of application. You get to determine the increase of that income stream annually for the life of the policy. Hey, that sounds really good, right? It is kind of, but what's the catch, Stan The Annuity Man?

Let's just say you said, "Okay, I want to buy a Single Premium Immediate Annuity. I want to put $100,000 in. Stan, I've given you my date of birth or dates of birth if it's joint, when the income's going to start, the type of account, how much money, which is the $100,000." And so, here's the quote, and you want to add a 3% Cost of Living Adjustment, a COLA to that. What does that mean? That means that payment is going to increase by 3% every year and just stairstep the whole way. Next year, it'll be 3% more on that total, and the following year will be 3% more of the previous year's total, etc. "That sounds fantastic. That's exactly what I want, Stan The Annuity Man. What's the catch?"

So, there's typically, depending on the math, and we've looked at it a myriad of ways, but let's say a six to nine year breakeven point, meaning that it will take you six to nine years in most cases. All you actuaries out there, don't kill me on this, but I'm just giving a broad brush on this. It takes six to nine years to get to the same payment level. If you use six to nine years, if you took this payment, it'll take six to nine years to get to this payment, if that makes sense.

Does attaching a COLA to an Immediate Annuity, Deferred Income Annuity, or a Qualified Longevity Annuity Contract make sense? Maybe, if you understand that it's going to take a while to make up for the static payment, the one without a COLA, and if you have a longevity history in your family, if your grandmammy and your grandpappy lived 110, maybe that works.

The other thing that I also see and recommend is that maybe when you're buying Immediate Annuities, you might split up that purchase and one with a COLA and one without a COLA. The bottom line is you cannot beat the annuity companies. The bottom line is there's not a perfect annuity product out there that addresses inflation. In the past years, there were what's called CPIU, Consumer Price Index increases to annuity payments, but those have kind of gone away. A couple of carriers had them here recently and have taken them off the board, but those were not guaranteed. They were based upon that CPIU, and CPIU is the Consumer Price Index. The U is for urban consumers. It's detailed, believe me. But those aren't available anymore. So, COLAs are the only thing available. I'm going to come back and I'm going to talk about Indexed Annuities and how those increases work as well.

Fixed Indexed Annuities

The other way that annuities are pitched for inflation, to adjust with inflation, and increase your income with inflation is with Fixed Indexed Annuities. First of all, let's do some history on Fixed Indexed Annuities. A lot of people out there think I hate them. I don't. I probably sell more than 95% of all agents out there. I just look at them differently. I look at them as CD products, which is what they are, and when they were first introduced in 1995, they were introduced as a CD alternative that gives a little bit better than CD returns. But historically since then, that's kind of been the range.

Income Riders

The problem with Fixed Indexed Annuities is that the sales pitch gets in the way of the reality. The sales pitch gets in the way of how they really work because the sales pitch is market upside with no downside. That's not true. Fixed Annuities are not a security. They're a fixed product or a life insurance product issued at the state level. The way it's being pitched now with some Income Riders and an Income Rider is an attachment to a policy, in this case, an Indexed Annuity that guarantees a lifetime income stream in the future.

But there are a few annuities out there and a lot of good sales pitches, but not reality sales pitches that'll say, "Well, if the index part of the contract increases by X, then your income will increase by X." Now, that again, sounds fantastic at the Bad Chicken Dinner Seminar. It sounds fantastic if you're not going to dig into the details, and it sounds fantastic if you trust the person pitching you the product. Never do that. The problem with it is that it's the same principle as what I just talked to you about: Immediate Annuities, Deferred Income Annuities, and QLACs with a COLA. If you have an Indexed Annuity with an Income Rider with the supposed potential increase to the income stream based upon the index return, that's not guaranteed.

If you just remember that, remember that they're not giving it away. Does that make it a bad product? Absolutely not. If you have longevity in your history, maybe it works. Maybe you split up the purchase between two different types of Income Riders, one with a static payment and one with an increase. But just remember that annuity companies have the big buildings for a reason. They do not give anything away. And any type of benefit like that, that really sounds yummy, really good that you elbow your spouse and go, "I really like that. That's pretty darn good right there." When you say that to your spouse, understand that the annuity company's not giving that away.

With that being said, visit The Annuity Man, to get all quotes. We can quote all of these products for you, including inflation-adjusted products and non-inflation-adjusted products. You can use our calculators for free or we can do it for you. You can talk to us by scheduling a call. You can download my books for free. You can listen to podcasts and read my blogs. I'm not only the type of agent out here from a sales standpoint, that just happens because I think I'm the best educator. I want you to understand these products. I want you to understand the good and the bad, just not the sales pitch, because all of these products, regardless of the type you choose, have limitations and they have benefits, and you need to know both. Thank you for joining me today, and I'll see you on the next Stan The Annuity Man blog.

Never forget to live in reality, not the dream, with annuities and contractual guarantees! You can use our calculators, get all six of my books for free, and most importantly book a call with me so we can discuss what works best for your specific situation.