The most important factor when trying to decide which fixed annuity to purchase is the guaranteed rate. However, this is not a feature of variable annuities, and often customers find it difficult to know how to find the best variable annuity contract for them. With variable annuities, it is important to compare all of the contract details and search for the best product that has the widest range of options and the lowest fees.
Although it means reading all the fine print, the prospectus is actually the best place to start. Prospective clients should look for a plan that has a range of investment options so that diversification can be achieved within the portfolio of the annuity. Ideally, a variable annuity should offer sub-accounts that range from high-growth to ultra-conservative.
It is recommended that investments are divided across at four or more sub-accounts to achieve a good level of diversification. The individual market segment selections will actually depend on the risk tolerance of the annuitant, which will change over time. Before any variable annuity is purchased, it is important to understand the risk level that is associated with the investments. A policy with a wide range of sub-accounts allows the investor to have investment options within the plan as their risk tolerance level changes throughout their life stages.
Other factors to consider when looking for a contract are the withdrawal and surrender charges, the withdrawal charge schedule, the management fees, the portfolio reallocation limits, and the lifetime dispersal option. The best variable annuities are the ones that offer the lowest fees in these categories.
Portfolio reallocation limits are important because it is the amount that an investor is allowed to shift funds from one sub-account to another. Plans sometimes allow only one reallocation per quarter or one reallocation per month. The higher the reallocation limits are, the better it is for the purchaser.
Zero front-end load investments and a compressed withdrawal schedule are also items that should be looked for when shopping for a plan. Typically, withdrawal fees range from 2 to 10% over a phase out period. The best variable annuity contracts eliminate withdrawal fees within five years. Contracts that lower the fee but never completely remove it should be avoided. In addition, the best contracts offer lower management fees. Management fees should be in the 1% range but not more than 2%.
Another criterion to consider is the penalty-free withdrawal allowance. The amount quoted in the product’s prospectus is the level that a client can withdrawal annually without incurring a penalty fee. A good policy allows a level of 8% or more. A withdrawal level of 10% is very good. It is important to understand that some variable annuity contracts apply the withdrawal allowance to income only. This limitation effectively prevents the withdrawal of the initial premium penalty-free during the first few years of the contract. It is not a major limitation to most customers, but it should be considered.
In summary, when deciding on a variable annuity, it may not be as easy for the purchaser as it is for a fixed policy buyer. However, paying close attention to the details and researching the prospectus for the different contracts will help the investor make the best decision.