Can You Mange Risk with a RILA?

If someone handed you a check today for $200,000 for you to use towards the future or retirement, how would you invest it? For many individuals, this is a daunting thought. The stock market can be frightening, but sometimes the return may be tantalizing. A more conservative fixed CD sounds less frightening, but if you are only just keeping up with inflation, how much are you actually earning?

What if there were a way to determine how much risk you wanted to take, but still participate in the market? What if you could change how much risk every year? What if you could still participate in the high earning years of market growth, within the risk threshold you would be comfortable with? Would you consider the market then?

If so, then maybe you should consider a Registered Indexed-Linked Annuity or RILA for short.

Okay, so what is a RILA? Well, in short, it’s an annuity investment product that allows you to participate in potential market growth of a specific index, or a few indices, with some designated guarantees to help either protect principal, or pay an income. Let’s look at the example below to learn more.

For this example, we will assume the RILA offers 2 protection levels, each with It’s own participation rate, using the S&P500 as our benchmark index, with a 1 year strategy. What does all that mean? Let’s break it down

What is a protection level then?  A protection level is the amount of the principal that is guaranteed within each term. For example, 100% protection over 1 year means that the investor has 100% of their funds protected in that 1 year period. In contrast, a 90% protection level means 90% of your investment is protected from loss during the strategy term.

What’s a participation rate? It’s the rate of participation the investor earns compared to the benchmark index. The participation rate accrues daily and fully accrues on the term end date. For example, if you index is ABC Growth Index, and you have a 50% participation of that index. If the index goes up by 10% at the end of the term end date, then you would earn 50% of the growth, or in this case, 50% of 10, which is 5%. It is also important to note that a withdrawal before the end of a term may have a positive or negative impact on the strategy value at the end of the term, which may be significant.

What is the participation benchmark index? This is the index strategy benchmark to determine growth or losses during the strategy term. In our example, that’s the S&P500 index. So, how much the S&P500 goes up or down will determine how much the account’s principal will go up or down based on the participation rate and protection level chosen during that strategy term.

What is a strategy term? This is how long each investment period lasts. So, a 1 year term will mean we will lock in growth or losses based on the above selections from 1 calendar year from one the strategy is selected. At the end of the year we can change the strategy index, participation rate, or protection level. This gives the investor flexibility with their allocations each time a strategy term ends. This means you can feel "Hands on" with your investments, being able to change your protection level and strategy term during different periods of time for different economies or stages of your life.

What about Fees? Taxes? Some RILA's come with no fees at all, and others charge fixed fees or percentages. It depends on which one you choose. We can help you find a RILA that is appropriate for your goals, and let you know about any applicable fees. 

As for tax implications, being that RILAs are an annuity, your earnings are tax deferred, and if you are rolling over funds from a qualified plan like a 401k or other employer sponsored retirement account, then you don't ave to pay any taxes to rollover funds to an IRA.

Now that we have covered the basics, let’s look at our example.

So, to recap: We have $200,000 invested into a RILA. We have two protection levels, each with a 1 year strategy term. The first is a 100% protection level and a 50% participation rate, and the 2^nd is a 90% protection level with a 75% participation rate. Our benchmark and strategy index will be the S&P500 index. 

Let’s see how these examples hold up using a historical scenario against the S&P500 by itself. In this scenario we will look at a 6-year period starting at the beginning of 2008 entering the financial crisis, and one of the worst years for market performance in recent history, going through to the end of 2013. It is important to note that the following examples will only include hypothetical growth of the principal, and does not factor any withdrawals or distributions which would otherwise impact the future value and overall results of the examples.

Below you can see how the S&P500 historically performed through this time period.

Investment returns for prior historical periods may not be indicative of future returns. No client should assume that future results will be profitable or directly correspond to the performance results of any comparative benchmark or composite.

As you can see, the loss in 2008 took until the end of 2012 to see a full recovery and slight return on investment. The following strong year in 2013 gave way to a great year earning $70,000, but still less than what was lost in the original loss of 08. Overall, cumulatively the investor would have earned a profit of $87,494.50 during this time, but will have had to “hang in there” the whole way through 2008, and been subject to a great deal of volatility.

In the next graph we can see the 100% protection level, where the investor decided to take an approach without market risk.

Investment returns for prior historical periods may not be indicative of future returns. No client should assume that future results will be profitable or directly correspond to the performance results of any comparative benchmark or composite.

In this example it is apparent to see the difference from the two even from year 1. This investor was probably breathing a sigh of relief when they did not see an over $74k loss in year one, but they also did see a significantly lower rate of return in the strong year which was 2013 at the end of the period as a result of the 50% participation rate, but still ended up over $21k better off than our first scenario thanks to the investor not having to “catch up” from 2009-2012.

Finally, let’s look at the third option, the 90% level.

In this example, we see a 10%, or $20k loss in year one because of the 90% protection level chosen. This puts the investor between options 1 and 2, but the apparent difference is the balance by the end of the 6 year period. In this scenario, the investor still had a lower return annually in the following 5 positive years than option 1, but because of the significantly smaller loss than the investor in option 1, and the higher participation rate than the investor in example 2, the investor had recovered their initial loss by the end of $2009, surpassed the balance of investor number 2 in 2012, and pulled ahead by over $30k in 2013.

Want to see what happens if we stretch this out over 10 years instead? Here are the figures below.

S&P500 Balance at end of 10 years: $451,982.09

100% protection level at end of 10 years: $390,521.45

90% protection level at end of 10 years: $479,652.39

This is an interesting change when stretched over 10 years because we can see that thanks to continued growth without a participation rate cap, Option 1 pulled ahead of the 100% protection level by over $61k, and has greatly closed the gap on the 90% protection level, but still leaves the investor vulnerable to another economic downturn year like in 2008 if it were to happen again.

Let's Recap: In this example the 90% protection level produced a high degree of principal protection, but with it’s higher participation rate than the 100% level, and it’s ability to avoid large losses like in 2008, enabled the investor to seek long term growth, and be able to determine and maintain a risk level they could be comfortable with over time.

So, if you just won the lottery, received an inheritance, are over 59.5 with a 401k, 403b, or other employer sponsored retirement account, have an IRA or ROTH IRA, or just have funds stuffed under your mattress, and you are thinking about investing, but unsure how to find an investment that fit’s your risk tolerance, while having the ability to meet your growth goals, then we would like to help.

RILA’s aren’t for everyone, but what is for everyone is retirement planning, and that’s where we can help. You can use the link below to schedule a call with us and we can help you determine a suitable retirement plan based on your individual needs, goals, and timeline.

(Scheudling Link)

Source: https://www.macrotrends.net/2526/sp-500-historical-annual-returns

This is a hypothetical example; it is not intended to predict your index or strategy returns. This hypothetical example assumes the contract was held to full term and no withdrawals were taken. Crediting strategies illustrated use a point-to-point crediting approach; the RILA return, which can be positive or negative, is only applied to account value at the end of each index term. Index-linked variable annuity products are complex insurance and investment vehicles. There is risk of loss of principal if negative index returns exceed the selected protection level. Gains or losses are assessed at the end of each term. Early withdrawals may result in a loss in addition to applicable surrender charges. Please reference the prospectus for information about the levels of protection available and other important product information.

It is also important to note that a withdrawal before the end of a term may have a positive or negative impact on the strategy value at the end of the term, which may be significant.

*A surrender charge schedule is the length of time you need to keep your money in the RILA without incurring a fee, and it may be the same or longer than the "term" you select.

Withdrawals and distributions of taxable amounts are subject to ordinary income tax and, if made prior to age 59½, may be subject to an additional 10% federal income tax penalty, sometimes referred to as an additional income tax. 

Withdrawals will reduce the death benefit amount in direct proportion to the percentage by which the contract value was reduced. This can increase or decrease the amount deducted from the death benefit. 

S&P 500 Index: Is an unmanaged capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.

Guarantees are based on the claims-paying ability of issuing Insurance Company. 

Information provided should not be considered as tax advice from GWN Securities, Inc. or its representatives. Please consult with your tax professional.

Past Performance - Investment returns for prior historical periods may not be indicative of future returns. No client should assume that future results will be profitable or directly correspond to the performance results of any comparative benchmark or composite.