Do Financial Advisors Earn from Annuities? An In-Depth Analysis
Many investors wonder whether financial advisors truly benefit from selling annuities. This article explores the different ways financial advisors can make money from annuities and provides insights into the fees and commissions involved. While annuities offer certain benefits such as guaranteed income and tax deferrals, understanding how advisors are compensated is crucial for making informed financial decisions.
Commission Income
One of the primary ways financial advisors can benefit from selling annuities is through commissions. Many annuity products pay a commission to advisors upon sale. These commissions can range from a percentage of the premium paid by the client, often anywhere from 2% to 10%, and can vary depending on the type of annuity.
Example: If a client purchases a $100,000 annuity, the advisor might earn a commission ranging from $2,000 to $10,000. These commissions are paid by the insurance company and can be significant, especially for high-value annuities.
Ongoing Fees and Compensation Structures
In addition to initial commissions, advisors may also receive ongoing fees and additional compensation. Some annuities come with ongoing management fees, which can provide a steady income stream for the advisor as long as the annuity remains in the client's portfolio.
Trail Commissions: Some annuity products offer trail commissions, which are ongoing payments based on the assets under management (AUM) in the annuity. This means that the advisor continues to earn money as long as the client maintains the annuity.
Fee-Based Compensation: In some cases, financial advisors might charge a fee for their services. This fee could include advising clients on annuities, instead of receiving a commission from the sale. This model can provide a more transparent and consistent financial benefit for the advisor.
Understanding Fees and Their Impact
While these fees and commissions can seem substantial, it is important for clients to understand how they are impacted. The commission an advisor earns does not directly reduce the client's account value because the insurance company pays the advisor out of their funds.
Mortality Expense Fee (M/E): This fee is typically between 1-2% per year and is designed to cover the guarantee that the beneficiary will receive either the amount originally invested or the current account value, whichever is greater. This ensures that if the market crashes and the client passes away when the market is down, their beneficiaries will still receive the full amount invested.
Surrender Penalties: If clients opt to withdraw their money early, they will face surrender penalties, which can reduce the initial value of the commission or fees earned by the advisor. However, these penalties are not typically significant enough to dramatically impact the advisor's earnings.
Personal Annuity Experience
Consider the personal experience of an individual who decided to invest in an annuity rather than pursuing higher education. At age 21, this person invested $25,000 into a 40-year Lincoln Mutual Annuity Fund. Due to the timing, this investment grew significantly over the years. Even though there were associated fees, the individual never questioned them because of the substantial growth of their investment.
However, it is important to remember that while annuities can be beneficial, understanding the compensation structure of the advisor is crucial. Advisors often make a substantial initial commission on the annuity sale, which could range between 3-7% of the principal amount. For example, if a client invests $100,000, the advisor could earn $3,000 to $7,000 immediately.
Conclusion
In summary, financial advisors can benefit from selling annuities through various means such as commissions, ongoing management fees, and fee-based compensation. While these fees can be significant, it is important for clients to understand the structure and the potential impact on their investment. Understanding these nuances can help make more informed decisions when working with financial advisors.