Conflicting Goals and a Legacy Variable Annuity
Married couple, ages 52 and 49, have $1.2 million investable: $650,000 in a variable annuity bought three years ago inside a 7-year surrender schedule, $300,000 in his 401(k), and $250,000 taxable. They earn $210,000, save $30,000 annually, carry a $450,000 mortgage at 5.25%, and support her mother at $18,000/year. Goals conflict: retire at 58, pay for two children’s colleges starting in six years, and “never lose principal.” They bring last year’s statements but no budget, estate documents, or Social Security estimates. The prior adviser earned a 5.5% commission on the annuity and charged 1.8% AUM. They ask you to “fix the annuity and guarantee 7%.” They are unsure whether they want ongoing advice.
1. What process steps and data are missing, and how should the adviser respond to the demand for a guaranteed 7% return?
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Missing items include a cash-flow budget, tax returns, estate documents, beneficiary designations, Social Security statements, insurance coverage, risk tolerance, time horizon, liquidity needs, and ranked goals. The planning process should establish scope, gather qualitative and quantitative data, analyze the current position, develop and present alternatives, implement, monitor, and document. A 7% guarantee cannot be promised. Explain that guaranteed products trade growth, liquidity, fees, and inflation risk for principal protection. Reframe “never lose principal” as a risk-capacity and time-segmentation issue: which dollars are needed in one to three years versus ten-plus years. Use a written investment policy statement and scenario analysis. If the clients insist on a guarantee, document the limitation and consider a Treasury ladder or fixed annuity only for the safe bucket, not the whole portfolio.
2. Evaluate the existing variable annuity and the prior adviser’s compensation. What due diligence and engagement terms should you recommend?
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Review the contract’s surrender value, surrender-charge schedule, mortality and expense fee, rider costs, subaccount expenses, guaranteed minimum benefits, free-withdrawal amount, and annuitization terms. Compare total cost and tax deferral with alternatives; a 1035 exchange preserves tax deferral but does not erase surrender charges. The 5.5% commission plus 1.8% AUM creates a conflict that should be disclosed and analyzed. The engagement letter should state scope, deliverables, compensation method, conflicts, client responsibilities, termination, and privacy. If replacement is recommended, document why in writing, compare costs and benefits, and calculate the break-even period for surrender charges. Obtain cost basis and policy statements before advising. Do not replace the contract merely to generate a new commission.
3. How should the adviser prioritize the conflicting goals and what immediate actions are recommended?
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Prioritize protection and liquidity first: emergency reserve, mother’s support, and insurance review. Next, capture any employer 401(k) match and set a retirement savings target. College funding should be balanced against retirement, not allowed to crowd it out. Build a goal-based bucket analysis: near-term college dollars in safer assets, retirement dollars in a diversified long-term portfolio. Immediate actions: obtain budget and tax data, beneficiary and estate review, Social Security estimates, annuity due diligence, and a retirement projection at 58 versus 62. Show the gap between current savings and the desired retirement income, then present alternatives such as working longer, saving more, reducing spending, or using home equity. Avoid irreversible decisions until the data are complete.