Updated: May 3, 2013 12:14PM
Originally published: February 17, 2002
Did you ever expect to see 6-month CD rates drop below 1.5 percent? Some Chicago banks are paying only 1.29 percent today. Many seniors who planned to live on their interest income are now faced with digging into principal to meet their rising monthly expenses. Or they’re searching for higher yields.
The obvious choices--and risks:
But higher yields mean higher risks. For example: 3-year CDs pay about 3.5 percent. But if interest rates rise, you’d be stuck with your low-yield CD for three years--or else face a penalty of at least three months’ loss of interest to get your money out. And if you lock your money up for longer terms in bonds or Ginnie Maes, you have a different risk. If interest rates rise, the market value of your bonds will drop. On a 5-year Treasury note, every 1 percent rise in rates translates into a $40 loss of market value. That’s like losing almost one year’s interest! And those very high yields on junk bonds expose you to the risk of default.
One alternative: a no-penalty tax-deferred annuity
This unique product is certain to be copied, but at the moment it’s offered only by the AAA-rated TIAA-CREF Life, a subsidiary of Teachers Insurance and Annuity Association, the huge financial services organization that once offered financial products only to teachers and educators. Now it sells to the general public. And it’s offering an unusual annuity product that should be of interest to those hunting for yield.
First, a word of background about tax-deferred annuities, in general. They’re designed for people who want to invest a lump-sum (or monthly contributions) of after-tax dollars into an account that will grow tax-deferred until the money is withdrawn. The investment can be made either in mutual fund-type accounts within this insurance contract or in a fixed-rate investment that looks like a certificate of deposit.
All annuities generally have penalties for early withdrawal from the contract. Typically, the restrictions last for five to seven years. And any earnings withdrawn before age 591/2 also suffer a 10 percent federal tax penalty. Those restrictions mean annuity money should be considered a long-term investment, primarily accumulated for retirement.
The TIAA-CREF Personal Annuity Select
Here’s an annuity that overcomes just about every liquidity and cost objection to tax-deferred annuities:
* The current rate is 5.15 percent--until April 1. Then a new rate will be announced--and guaranteed for the next 12 months. (It’s likely to be just under 5 percent.)
* If rates move up during that 12-month period, the company will bump rates up--and guarantee the increase for the next year.
* If rates drop, you can take all or part of your money out at any time, with no penalty! In fact, you can withdraw any amount of money over $1,000 with no penalty, once every 180 days.
* You can withdraw your entire investment at any time.
* Rates are guaranteed not to drop below 3 percent--ever.
* There are no contract fees, adjustments or other charges. All costs are built right into the yield you receive.
So this annuity could be considered as a chicken money alternative for at least part of your savings. Seniors who must live on their interest can withdraw money--a minimum of $1,000 per withdrawal--every six months, while others can let the money grow tax-deferred. Since there are no penalties for early withdrawal, you can be sure the insurance company will keep paying good rates.
How can they do it? The insurance company is buying investment-grade, short- and medium-term bonds and mortgages, and passing the yields--or at least a good part of those higher rates--on to their investors. But these are NOT federally insured CDs; they are obligations of the company. You’ll get a prospectus and application, just as with any other investment. The minimum investment is $250, and more contributions can be made any time.
If you have questions or want more information you can call TIAA-CREF and ask about the Personal Annuity Select Fixed Account at 800-223-1200. I’ve always advised not to put all your chicken money nest eggs in one basket, but this is one egg worth sitting on! And that’s The Savage Truth.
Terry Savage is a registered investment adviser and is on the board of directors of McDonald’s Corp. and Pennzoil-Quaker State Co. Send questions via e-mail to firstname.lastname@example.org. She appears weekly on WMAQ-Channel 5’s 4:30 p.m. newscast.