About Annuities - Some Straight Talk Begins to Simplify the Subject
We don't get many calls about annuities, and I'm inclined to think that it's because only a tiny percentage of the adult population - no matter how adult they are - don't understand them well enough to even ask a question. Apparently Maine legislators saw a problem with the possibility of people buying something they didn't understand, as well. Our attorney Peter Spence Lee brought the issue to our attention, and at our request, wrote the A. to our Q. about the matter.
Q. My insurance agent wants me to buy an annuity, but I don't know if he's just trying to sell me something, or it really is a good choice for me. How do I tell?
A. Under Maine law, when an individual purchases an annuity from an insurance company, the insurance company or its agent has a specific and affirmative duty to determine that there are reasonable grounds for believing that the purchase of the annuity is “suitable” for the consumer. The question of suitability is broad and includes an inquiry into the consumer’s financial status, tax status, investment objectives, and such other information considered to be reasonable by the producer.
The importance of compliance with the suitability rule was made clear in a recent case decided by Maine’s Supreme Judicial Court, Bankers Life & Casualty Company v. Superintendent of Insurance. In this case, an elderly woman recently treated for cancer was persuaded by an insurance agent for Bankers Life to purchase three annuities by liquidating three certificates of deposit and selling her General Electric stock. According to the decision, the agent failed to quantify the consumer’s credit card debt, leaving her cash-strapped. In addition, he made a questionable recommendation to roll over an IRA annuity that had more favorable long-term minimum interest rates than the Bankers Life annuity and he did not take into account the capital gains implications of her sale of the GE stock. Subsequent to her purchase, the woman was unable to gain immediate access to her funds to pay household expenses, was unable to make charitable donations or pay off credit card debt. Sanctions were imposed, restitution ordered and a penalty was assessed against Bankers Life.
The Maine law on annuity sales includes two other key features meant to protect the consumer: first, the insurer must have a system in place to supervise the recommendations that it makes to ensure compliance with the suitability rule. At a minimum, the system must include written procedures and include periodic review of its records. Second, the insurer must maintain its records for three years.
Why the fuss with annuities? The reason for the protections on the sale of annuities has to do with the nature of annuities themselves. Although there is a multiplicity of insurance products that are described as annuities, the most basic form involves a contract whereby a sum of money is exchanged now for a stream of periodic payments stretching into the future. Such an income stream is desirable in a variety of circumstances as a reliable and dependable income stream. Annuities have been around for a long time and have been an important planning tool for generations.
However, one key feature must not be overlooked: the exchange for a lump sum now for the future periodic payments. The tension in annuity sales comes at the point where a consumer makes a considerable present payment now for the right to the future periodic payments. And the reason there is tension is due to the fact that the consumer will no longer have his capital, his savings or whatever it was he used to purchase the annuity. In short, the nest egg is gone or partially gone. Remember Humpty Dumpty.
Any relinquishment of capital must be done with care, with our eyes wide open, with excessive caution. It should be done in conjunction with tax and legal guidance. Are there medical needs to consider? Are there estate planning considerations? Will there be any improvements necessary for the home requiring a capital influx? Were you planning on taking a trip? In other words, it is hard to come by capital. It has taken time and effort and years. What you have when it is in your possession is control. That should not be given up without the most careful deliberation.
Sometimes, consumers can get caught up in the positive attributes of an annuity without considering the whole picture. The beneficial effects of a long-term income stream can be emphasized in a sales setting. There needs to be a circuit breaker to allow the consumer a chance to step back and see the prospective transaction as a whole. This is what accounts for the suitability rule. It is a reality check.
If you are considering an annuity, if an insurance agent has recommended one to you, make sure it is the right move for you after careful and deliberate consideration. Run it by an accountant. Run it by a lawyer. Run it by a friend. Take a deep breath. And before you buy, make sure that the insurance company is conforming to their duty under Maine law and that is, to ensure that it is a suitable investment for you, considering all your circumstances.
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LEGAL DISCLAIMER: The information contained in this article is a general response to the question and does not constitute legal advice. If you require legal assessment of a situation, advice, or representation, consult an attorney who practices in the area of law involved. For more legal information, go to www.mainebar.org/lawyer_need.asp. © 2013 Maine State Bar Association