| Q: I am a public school teacher with the Princeton | | | | Educator 2 is $44,200 wealthier, simply by |
| Regional High School District and my husband is a | | | | avoiding the M&E inside the annuity. |
| professor at Rutgers University. We can either | | | | Do not forget, the M&E continues as long as |
| chose annuities or mutual funds in our 403(b) | | | | you have your money invested in a variable |
| retirement plan. What are the pros and cons of | | | | annuity - destroying your wealth well after you |
| each? | | | | have stopped contributing. |
| The Problem - Annuities in Retirement Plans. Over | | | | Pros and Cons of Mutual Funds in a 403(b). One |
| 80% of 403(b) retirement assets are invested in | | | | very big pro of mutual funds are their low costs, |
| tax sheltered annuities, while only 20% are | | | | as discussed above. Unlike annuities, mutual funds |
| invested in mutual funds. In New Jersey, the | | | | do not have M&E. Another pro of mutual |
| percentage invested in tax sheltered annuities is | | | | funds are their transparency. Unlike variable |
| ever higher. | | | | annuities, mutual fund prices are readily accessible |
| At face value this sounds harmless, but hiding just | | | | on a daily basis through newspapers, finance |
| underneath the surface is a very profitable, little | | | | websites or calling the mutual fund company |
| talked about secret that is unnecessarily costing | | | | directly. |
| investors billions of dollars. Insurance companies | | | | One con of mutual funds is their lack of a fixed |
| originally developed annuities so investors could | | | | interest rate. Unlike fixed annuities, mutual fund |
| invest their money and have all interest, dividends | | | | companies offer money market mutual funds |
| and gains sheltered from taxation - thus the term | | | | that provide a variable interest rate. This can |
| "tax shelter". Then, in their infinite wisdom, they | | | | work towards your advantage in a rising interest |
| came up with the idea of offering their tax | | | | rate environment, as the money market's interest |
| shelters inside of employer sponsored retirement | | | | rate would rise as well. |
| plans. | | | | The Solution - Choose What is Right for You. For |
| If you can only remember one thing from this | | | | some investors, earning a fixed rate, sometimes |
| article, here it is: 401(k), 403(b) and 457 | | | | lower than the inflation rate, is the right choice to |
| retirement plans are already tax shelters! | | | | reduce risk. For most investors, generating a rate |
| Pros and Cons of Annuities in a 403(b). | | | | of return well above the inflation rate is the right |
| One pro of annuities is the option for a fixed | | | | choice to reduce the risk of losing money in real |
| return - thus the term "fixed annuity". Investors | | | | dollars. When comparing annuities versus mutual |
| are generally promised a fixed interest rate for up | | | | funds in a tax sheltered retirement plan, look out |
| to one year, after which, the rate resets each | | | | for you own best interests, not the insurance |
| year. Unlike a certificate of deposit (CD), which is | | | | company's best interests. |
| guaranteed by the FDIC, a fixed annuity is not. | | | | Often Overlooked. Many investors think they are |
| One con of annuities is the high costs built into the | | | | trapped in their 403(b). They are not. Most |
| other type of annuity, variable annuity. Like a | | | | employers allow employees to move from an |
| mutual fund, variable annuities allow investors to | | | | annuity based 403(b) to a mutual fund based |
| participate in the long-term benefits of stocks and | | | | 403(b) and vice versa. The transfer is called a |
| bonds. But here comes the big dirty secret: in | | | | 90-24 transfer. Not only is the transfer easy, but |
| addition to the underlying expenses inside the | | | | there are no tax ramifications. Once an employee |
| actual investments, the insurance company applies | | | | terminates service with an employer, they can |
| a second set of expenses called Mortality and | | | | generally rollover their 403(b) to another |
| Expense risk charge (M&E). | | | | employer's retirement plan or better yet into an |
| How Big is this M&E Problem? Approximately | | | | Individual Retirement Account (IRA) - again, |
| $200 billion dollars are invested in variable annuities | | | | without tax ramifications. |
| inside of 403(b)'s. Applying the average M&E | | | | Action Steps - Be Sure You Have Choices. Make |
| charge of 1.40% on top of the underlying | | | | sure your employer offers choices. Unlike the |
| expenses results in a $2.8 billion problem. Let's | | | | corporate world, where annuities have almost |
| look at a two educators who each invest $6,000 | | | | been phased out, most non-profit employers will |
| per year for 20 years. | | | | allow both annuities and mutual funds. If your |
| Educator 1 invests in a 403(b) using an annuity. | | | | employer only offers annuities, which is common |
| Although her investments generate an annual | | | | in New Jersey, ask them to add a mutual fund |
| return of 9%, the M&E bring the return | | | | option. Remember, you have worked hard for |
| down to 7.6%. | | | | your money - do not waste it on unnecessary |
| Educator 2 invests in a 403(b) using mutual funds | | | | fees. |
| with equal risk and generates a return of 9%. | | | | |