Should You Buy a Fixed Rate Variable Annuity?

Have you heard of an investment that will guarantee a 5, 6, or even 7 percent return, and can return more if the market performs well? Actually, these claims are quite common in the variable annuity world. However, it is critical to realize that the guaranteed return is only half the story, and that the withdrawal rate attached to the annuity dramatically impacts the actual return achieved by the investment.

Moshe Milevsky has done some great work determining "the catch" of these investments. His entire report can be viewed here, but the following is a summary of his findings:

Growth Rates Aren’t The Whole Story

These products are called "guaranteed lifetime income benefit" variable annuities (GLIB VAs). The annual guaranteed growth rate, which is the rate touted by annuity firms to attract consumers, applies only to an income base. The income base is usually the equivalent of your original investment, plus the interest derived from the invested dollars at the annual guaranteed growth rate. This value is completely separate from the actual market value of the account, which fluctuates with the market. At set periods, an investor can choose to withdraw the actual market value from their account or annuitize the income base. If the investor decides he wants to annuitize the value of the income base rather than cash in the actual value of the account, he will receive a set dollar amount annually for the rest of his life. The dollar amount is determined by the withdrawal rate assigned to the contract. Withdrawal rates frequently range from 4 to 7 percent, and this figure is usually not made as clear and apparent as the annual guaranteed growth rate by insurance firms. Yet, it is crucial to understand that the withdrawal rate is different from the annual guaranteed growth rate, and every GLIB VA has both.

In order to take advantage of the annual guaranteed growth rate of as much as 7 percent, investors must first sacrifice the liquidity of their investment. After annuitizing, investors will never be able to access the lump sum of their investment -- they will only receive annual payments for the rest of their life. Second, whether annuitizing is a good option depends on the withdrawal rate and how long the investor lives. If the withdrawal rate is low, which essentially limits the speed in which you can access your invested funds, the annuity’s actual return is lowered.

Not as Good as it Sounds

Let's look at an example. Suppose a 55 year old invests $100,000 in a product offering a 7 percent guaranteed growth rate and annuitizes this product in ten years. The guarantee assures this investor he will have at least $196,715 by the age of 65. This number sounds great, but this is where the potential problem arises.

When you refinance your home, do you simply work with the bank that offers the lowest mortgage rate? Recently, banks started utilizing a trick where they offer obscenely low mortgage rates but charge a high amount of fees to process the loan. Homeowners are beginning to realize that when financing their home, they need to consider total costs, or a combination of the mortgage interest rate and the fees to generate the loan.

Similarly, a high annual guaranteed growth rate of return doesn't do an investor any good if they are restricted by a low withdrawal rate. Suppose our hypothetical product stipulates a withdrawal rate of 5 percent. Thus, at age 65, the investor will receive 5 percent of $196,715, or $9,836 for the rest of his life. Again, this figure doesn't sound too bad, but what rate of return is he actually achieving assuming he lives to his natural life expectancy? Following is a chart containing cash-equivalent returns for GLIB VAs with various guaranteed growth and withdrawal rates.

As you can see, our 65 year old investor whose annuity has grown 7 percent annually during the past ten years but is restricted to a 5 percent withdrawal rate will only earn 2.09 percent annually over the life of the investment. Don’t forget that these guaranteed income riders come with an additional cost – commonly 1 percent per year. Of course, this makes our actual achieved return even lower. Varying the investor's age and the investment's growth and withdrawal rates will produce a range of implied returns, but the actual return is always less than the growth rate highlighted in the policy. Why? As Mr. Milevsky puts it, "marketing materials speak the language of 'investment Celsius' to human beings who are hard-wired to understand 'economic Fahrenheit.' The numbers sound similar, but the scales are completely different."

Do your homework when analyzing any annuity product. Speak to a fee-only financial planner who can provide you with objective advice. You may hear a different side of the story than what you hear from the commissioned sales agent promoting the product.

About the author

Lon Jefferies, CFP®, MBA

Lon Jefferies is an investment advisor representative with Net Worth Advisory Group, a fee-only financial planning firm in Salt Lake City, Utah. He is a Certified Financial Planner (CFP®) and a member of the National Association of Personal Financial Advisors (NAPFA). He possesses an MBA and bachelor's degrees in Finance and Marketing from the University of Utah. Lon writes articles for local magazines such as Utah CEO, Business Connect and Utah Business Magazine, and he consistently contributes articles to online magazines such as and (by The Wall Street Journal). Additionally, Lon is an expert author at Lon has been quoted nationally in publications such as the NY Times and Investment News.

Lon can be contacted at (801) 566-0740 or Learn more about Net Worth Advisory Group at and visit Lon's blog at


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  • Tom,

    I’m a believer in inexpensive, diversified portfolios that have the appropriate asset allocation to match a client’s risk tolerance. Over time, such a portfolio has historically proven to provide a greater return that these annuities, and they are less expensive.

    I am a fee-only financial planner, and my clients can choose to either pay me a fixed annual retainer or pay me a percentage of assets under management. I never collect additional commisions from the products I recommend.

    No, Tom, I do not use these products, but I have been exposed to them plenty by clients coming to me upset by the performance of their annuity and upset that they had no idea what they were getting into when they signed the contract.

    Lastly, are you an author on this or another website? It is difficult for me to not assume you are simply from the annuity industry when I don’t know your full name and see that you use a gmail address. If you could direct me to a professional profile that may help me understand where you are coming from. Thanks.

  • Lon,

    I charge a fee for advice and I recieve commissions for products sold as well. Of course I disclose to clients how we get paid, and we are able to get paid on these products the same as we would with an AUM fee… bringing us side by side with clients on performance and compensation. Many fee only advisors charge for AUM as well. Do you?

    And as I asked you before, which you never responded to, question 3.

    The bottom line here, like Roger has said is that you need to do more research on this topic (that you do not use) and be careful with how you word your articles, because it is quite misleading.

  • Roger, I disagree. I would encourage any person interested in utilizing a financial planner, or listening to the advice of a financial planner, to not even consider the words of an individual who doesn’t clearly communicate how he is compensated.

  • Why on earth would you dedicate an entire article to an income benefit that’s almost never used?

    Most folks will read this, think you’re talking about Variable Annuities with a GMWB, and then pass up what may be the best income option they’ll ever have for guaranteeing SOME of their money will last as long as they do — with the potential for a pay raise in good markets.

    You desperately need to get up to speed on the annuity industry.

  • Tom,


    I found Mr. Milevsky’s work on the topic discussed here to be of quality and worth reading. However, I don’t find him to be the one and only valuable opinion in the world of financial planning.

    I’m still hoping you can tell me a bit about your background. Are you a fee-only financial advisor?

  • Lon,

    Even though the guy who you reference in your article above describing “the catch” endorses them (moshi)?

  • Tom,

    Simply, I find the product you reference, along with all the applicable riders, to be too expensive.

    What position are you coming from, Tom. Are you a fee-only financial advisor?

  • Ahhh point two… the confusion is you are talking about a GMIB, which is not what most advisors sell these days, check out moshi, your reference above as he endorses the GMWB for Jackson along with the several other company endorsements in his repertoire. Consider using different lingo in your title and first several paragraphs because you mislead me. Most of us do not memorize all the small changes in wording you use for very similar products… i.e. – withdraw vs income.

    Also these guarantees are on two folks, which will probably push that table of mortality back some, and is why I estimated the larger amount of payments once hitting 65.

    Are you ok with using this product that moshi recommends?

  • Tom,

    Clearly this is a complicated subject. Unfortunately, I’m afraid neither of us are understanding each other. Allow me to attempt to work through this scenario again:

    We are assuming our 55 year old investor invests $100k in a product with an income base that possesses a guaranteed growth rate of 7%. At this growth rate, our $100k income base would have grown to $196,715 over a 10 year period, or by the time the investor reached age 65.

    At this point, our investor decides to annuitize the investment, but is restricted to the 5% withdrawal rate imbedded in the contract. Thus, he will receive 5% of $196,715, or $9,835, every year for as long as he lives. Remember that our investor is now 65, and according to the US Census the average 65 year old lives to approximately age 83. Thus, on average, our investor will receive 18 annual payments of $9,835 until passing. This would lead to total income of $177,030. I’m not sure where our miscommunication is, and I’m not sure how you would see an investor receive 40 years of payments and a total of over $300k in income.

    Hopefully this helps. Thanks.

  • 1) How do you get 2.09% from the withdraw? That graph is confusing and I don’t know where you came up with those numbers. The annuity would give you almost $300k over 40 years when you put in 100k. Thats a 9% withdraw in 10 years from your initial investment. If my investments outperform I get that too.

    2) Most of the products offered have these guarantees but do not annuitize your money, and can have several different withdraw penalty time frames or none.

    3) What else would you have us do with bond rates so low, such a long life expectancy and a moderate/moderate conservative investment risk. Sure if we had all the money in the world we would not need this, but after 2008 this makes a lot of sense, I wish I had this earlier, and especially if a scenario like that happened again.


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