Client Situation Recommendations

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May 4, 2008 3:27 pm

I would like to get feedback on  a client situation that came up in my last
appointment for what I think is best for
them, and what maybe some other options are for my client.  Here is the rundown:

Married couple owns their home, no more kids in college, and
make about $100k per year combined.   Male is 55 and Female is 53.  They both have over at least a 10 year horizon
before they plan to retire, and plan on having the house paid off in 6 years by
giving an extra payment to the mortgage each year.

Right now the Male has about $130K saved in a Franklin
Templeton IRA that he has been managing himself that is spread out in many
funds.  He also Manages the $60k Franklin
IRA in his wife’s name.  I don’t know the
exact cost basis but came to the understanding that they have put around $80k
into it and have gained the other half over time.   The IRA’s are also still in B-shares and
never converted to A, so they are still paying higher operating costs (1.75%)
for the mutual fund.

The problem I have found is that they have put a lot of
money into the funds and moved them around frequently due to the ups and downs
in the market.   The funds are moved from
moderate risk to tax-free bonds and vice versa all the time.  This has lead to them gaining 1 double on
their whole retirement money in over 20 years of investing (and maybe more
years than that, yikes)!  It doesn’t take
a rocket scientist to know they need to change.

My recommendation for them was a VA with ING that has living
benefits, i.e. guaranteed income/withdrawal rider.  The fees with the rider are around 3% but
they can allocate 80% to any of the funds offered including small cap,
emerging, etc.  I felt this product would
be good because they have shown over time they cannot handle any market swing,
but want to be semi-aggressive.  In the
VA they can be more aggressive and not worry about swings because of the
rider. 

My questions are:

Do you agree or disagree with my recommendation?  I felt that there main priority was safety of
principal but know they need to be more aggressive since they have a long time
horizon (10-15 years) before they plan to retire.  I felt this VA took care of safety and allows
them to be more aggressive with piece of mind.

Also, why would you not allocate all $190K qualified money
into the annuity?  Any money not put into
the annuity they want to keep in the Franklin IRA where it will stay on the
same pattern of no/little gains with a greater possibility of loss. 

What plan would you have in they want to continue to invest for
retirement (about 10k per year) into a different investment?

Please let me know any other suggestions you have.

Thanks in Advance!

May 4, 2008 4:31 pm
teke1600:

I would like to get feedback on  a client situation that came up in my last appointment for what I think is best for them, and what maybe some other options are for my client.  Here is the rundown:


Married couple owns their home, no more kids in college, and make about $100k per year combined.   Male is 55 and Female is 53.  They both have over at least a 10 year horizon before they plan to retire, and plan on having the house paid off in 6 years by giving an extra payment to the mortgage each year.


Right now the Male has about $130K saved in a Franklin Templeton IRA that he has been managing himself that is spread out in many funds.  He also Manages the $60k Franklin IRA in his wife’s name.  I don’t know the exact cost basis but came to the understanding that they have put around $80k into it and have gained the other half over time.   The IRA’s are also still in B-shares and never converted to A, so they are still paying higher operating costs (1.75%) for the mutual fund.  Will convert at some point.


The problem I have found is that they have put a lot of money into the funds and moved them around frequently due to the ups and downs in the market. Here is where you add value.  The funds are moved from moderate risk to tax-free bonds Tax free in a qualified account?  Be the expert. and vice versa all the time.  This has lead to them gaining 1 double on their whole retirement money in over 20 years of investing (and maybe more years than that, yikes)! Twenty years, $80m basis, assuming $4m yr, that is an 8% ann return, not great but not terrible for a client with low risk tolerance.  It doesn’t take a rocket scientist to know they need to change.


My recommendation for them was a VA with ING that has living benefits, i.e. guaranteed income/withdrawal rider.  The fees with the rider are around 3% Does that include the underlying subaccount management fees? but they can allocate 80% to any of the funds offered including small cap, emerging, etc.  I felt this product would be good because they have shown over time they cannot handle any market swing,So your solution is to put them in volatile subaccounts? but want to be semi-aggressive.  In the VA they can be more aggressive and not worry about swings because of the rider.  Wrong!!!  If they move whenever something drops, they will hate this.  The account balance is the only thing they will understand a year from now.  Having the rider will not save you.


My questions are:


Do you agree or disagree with my recommendation?  I felt that there main priority was safety of principal but know they need to be more aggressive This sounds like your feelings not theirs. since they have a long time horizon (10-15 years) before they plan to retire.  I felt this VA took care of safety and allows them to be more aggressive with piece of mind.  Piece of mind goes right out the window with a down statement.


Also, why would you not allocate all $190K qualified money into the annuity? You are eliminating the tax deferral advantage.  Any money not put into the annuity they want to keep in the Franklin IRA where it will stay on the same pattern of no/little gains with a greater possibility of loss.  Their behaviour made lead to greater possibility of loss, but that will apply to the VA also.  I think if done right, you can make far more with FT than a VA.


What plan would you have in they want to continue to invest for retirement (about 10k per year) into a different investment?


Please let me know any other suggestions you have.


Thanks in Advance!

 
Let's review, you want to take them out of an investment that they are paying 1.75% in (will convert to 1%) and put them into an investment that charges 3% (although I doubt that include the subaccount fees, could be wrong).  And in addition, you are going to hit them with a CDSC on the B shares?  If you are using fees to justify this move, your making a mistake.
I am not a big fan of VAs.  Insurance charges you 250 bps annually (avg) more than a brokerage MF (albeit most often with the upfront commission) and gaurantees 5% withdrawal for life.  In addition (not familiar with ING) they typically force you into an asset allocation model with the lifetime income benefit.  Why not put them into an asset allocation fund from FT?  Founding Funds has been very good.  I believe they have had only 4 or 5 down years in the past 30, and then have gone on to all time highs the following year each time except 1973 and then it took two years.  This allows you to bank the additional cost of the VA for the client giving them a better chance of success.  These people don't need better investments, they need advice.  They need a plan.  They need to know someone is watching their account and helping them achieve their goals.  Their primary problem is making emotional and sometimes irrational (tax free in a qual acct) decisions.  Your belief is the rider in the VA will fix this and it won't.  You are the solution, not the VA.
May 4, 2008 7:41 pm

Teke,

 
Ask them what they think about a g-teed income stream for a portion of their money.  If the concept appeals to them then consider it for some of the funds.  In general, I agree with Primo, they are in a good fund family with a lot of options but have made some bad decisions.  Be careful about criticizing his decisions too much he may be emotionally invested in his decisions.  Good luck.
May 4, 2008 8:15 pm

Teke,


There isn't only one way to do the right thing in this situation.  Like others have said, look into the CDSC if there is one.  Primo - I generally agree with what you say, and respect your opinion in this thread, but I disagree with you in this case.
 
I am a big fan of the ING VA and know it very well.  They've just released their "new" version, which costs 15 bps more.  With the additional cost, you can be "all in" even with subaccount manager fees for around 3%.  If you explain the rider correctly so that the client understands it, the annuity can be a great option.  With the correction in the market this year, I have had clients in the ING annuity tell me they have never been so comfortable with their investments.  They understand the product and why we are using it.  It's difficult to get clients that get it though.
 
With their time horizon, I could see myself making the same recommendation to go with the ING VA. 
 
Going back to the fees, you say that the B shares expense ratio is 1.75%.  With hidden trading costs, etc...I don't find it too hard to believe the real expense is close to 3%.  If you are using Focus 5 in the ING annuity, you know that you're expenses are at 3.04%. 
 
Again, everyone does it differently.  Primo's way works well too.  Like others have said, your professional advice is what they really want.  You can always present them with option A and option B and see what they like best.
May 4, 2008 8:27 pm

ask yourself this, are you selling the a PLAN or simply trying to sell them a product.  we do not know the "whole story" here in regards to investor behavior and what not.  asking for verification from us is asking for blind advice.  end of the day are you creating a plan for this couple or not?  are you trying to sell them something simply to sell them something different?

May 4, 2008 8:33 pm

I should explain why I am not a big fan of VAs.  The cost.  I have a client in an annuity (inherited) that has had Founding Funds inside the annuity since day 1 (2000).  Their account is worth almost 30% less than if they had done the a share at the $50m breakpoint.  It is only worth about 20% less if you assume taxes came out of the account at the TOP tax bracket.  It is my belief that investments available inside annuities are typically available outside, or something extremely similar.  Having said that,  if the client needs a gaurantee (second question in my decision tree), happy selling.  If they understand cost and the effects on long term performance, might want to show something else.  In my practice, annuities are not used for the journey, they are implemented when you have arrived at the destination.

May 4, 2008 9:02 pm

teke, your post is illustrating a classic rookie mistake.  You are focusing on what they have instead of what they want.    We don't have enough info to know what they should or should not be doing...and neither do you.  If you were with the client for 60 minutes, 50 minutes of that should be spent focusing on what they want.  What they have is purely secondary.

 
"What would be the CDSC on the B-shares?"
 
Sometimes, we should think about this differently.  (This is not specific to this post.) The client pays that fee whether they keep the "B" share or not.  It's either paid all at once through a CDSC or annually in the guise of added annual sales charges. 
 
"The account balance is the only thing they will understand a year from now.  Having the rider will not save you."
 
That's completely different from my experience.  The clients see both the contract value and the value of the guarantee.  I have found that the guarantees have given my conservative clients a great deal of comfort.  (I am not saying that these products are appropriate in this case.) 
 
I have a client in an annuity (inherited) that has had Founding Funds inside the annuity since day 1 (2000).  Their account is worth almost 30% less than if they had done the a share at the $50m breakpoint.
 
Can you give an example of this?  I'm having a hard time imagining how this is possible.
 
  
 
May 4, 2008 9:04 pm

Primo, thanks for your explanation.  I don't use mutual funds in the annuity, which keeps the costs lower.  I personally believe this makes a huge difference.  I agree, though, that the costs, if mutual funds are used, can be very high. 

May 4, 2008 9:10 pm
Can you give an example of this?  I'm having a hard time imagining how this is possible.
 
  
 Run a hypo of any annuity you choose.  Use a subaccount based on an a share.  Compare value today.  Hartford Leaders is the above example.
May 4, 2008 9:33 pm

Primo, even without looking at the hypo, I'm with you on something very important.  The extra expenses of a VA can really make a huge negative difference on the upside.  This is why I believe that they are only appropriate if the guarantees are going to change investor behavior. 

 
 
May 4, 2008 9:36 pm

Agree 1000%