Why a flight to CDs makes little sense for annuity holders

Personal finance Q&A with Steve Dinnen.

Q: I have an IRA account with a securities company that is mostly comprised of an annuity issued by a separate insurance company. I have been told that the IRA account is covered by SIPC (Securities Investor Protection Corp.) up to $500,000. I'm concerned about what would happen if the insurer went bankrupt. Would my account be covered or would I lose all the money? Should I opt out of the annuity contract, pay the surrender charges, and put the money in a safe investment, such as a CD?
J.G., via e-mail

A: The SIPC protects an investor in the event a brokerage firm fails, owing customers cash and securities that are missing from their accounts. But Paul Markowich, a certified financial planner in Philadelphia, reminds us that SIPC does not provide protection against an insurance company becoming insolvent. For this reason, fixed annuities are not covered, though the present value of a variable annuity is covered (because its underlying asset is an investment such as a mutual fund).

Further annuity protection is provided by state government insurance funds ranging up to $500,000, depending on your state of residence. Check out your state on nolhga.com, the website of the National Organization of Life and Health Insurance Guaranty Associations.

Putting aside SIPC and state government protection limits, Mr. Markowich doesn't recommend you surrender the annuity contract. There are no indications that your insurer will have problems honoring their future contracts.

But if your insurer somehow becames insolvent and no insurance company were to purchase its book of business, and the government did not step in, you would lose any future guarantees associated with the annuity. But your present account value is protected, says Markowich. Guaranteed death benefits, income benefits, and withdrawal benefits would be lost. You would still have your present account value, given that your IRA is a variable annuity, and, as such, is not invested directly in the insurer's general account.

By surrendering the contract when the market is low, Markowich says you'll lose out on any future appreciation. You'll pay surrender charges and then lock in historically low CD rates. These drawbacks, he says, pose a greater risk on your retirement future than leaving the annuity alone.

An option: Revisit the asset allocation within your annuity and rebalance your portfolio to your current risk tolerance. If you were a 50/50 (stock to bond) investor going into 2007, you're probably a 35/65 investor now without making any changes. This is why rebalancing is important.

Submit your question to Steve Dinnen at money@csmonitor.com

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