Some retirement annuity fees are high enough to qualify as thieving
Fee structures are lower than what they used to be but can punish you when life throws curveballs at you
I recently took on a new client, who like many South Africans, found himself facing retrenchment. He is a good custodian of his money. He started investing for his retirement at a young age and runs his financial affairs with a budget. He does not have unnecessary debt and is well covered with life and disability insurance.
On hearing he was going to be retrenched, he did the responsible thing and reviewed his financial situation. His existing adviser had left the financial institution that employed him, so he came to talk to me.
After a few consultations, we agreed that one of the financial obligations that he should let go of, for now, would be his retirement annuity (RA) contribution. A week later when his RA statement landed on my desk, it showed that R62,450 in fees and a R4,675 “exit fee” had been deducted from his R103,250 investment growth and softened to some extent by R22,330 of “rewards”. This from a total investment of R147,730.
At this point my blood started to boil. Here is a person who started investing early, and hoped to have had compounding work its magic. Many industry presentations quote Mark Twain, Albert Einstein or some famous person on the benefits of compounding. But this product design nullifies the very thing that will contribute the most to your retirement.
Shareholders and management still get their dividends and bonuses because fees were paid. But because this investor has been “naughty” by stopping his premiums, he’s being punished with an extra exit fee on top of that.
So, why do these fee structures persist? It’s an industry-wide problem and not limited to this specific product provider. The fee structures are lower than what they used to be but are still high enough to qualify as thieving.
This discussion is not new. Rob Rusconi brought this issue into the public domain in 2005, and while there has been some progress since then, unfortunately, it’s not anywhere near as much progress as we could have made.
These fee structures persist because people continue to buy them. The incentive for firms to continue to offer them is clear — they are highly profitable. Why investors still buy them is a more complex issue.
There are a host of role players in this industry who carry a portion of the blame here.
- Regulators are up against a powerful, well-resourced and highly intelligent lobby group. We have a solid regulation framework, and strong people who have made progress on curbing fees and getting a better deal for you, but more needs to be done;
- Financial advisers continue to come under scrutiny for our role because part of our fiduciary responsibility is to protect you against this, and as a group we have not lived up to this responsibility. Too often advisers simply take the messaging from product providers to you without interrogating it;
- Product providers carry a lot of the blame too. They market their fee structures in a way that is not entirely honest. Fee rebates are called rewards or benefits or boosters or incentives or bonuses. Nonsense. These payments are like tax refunds — it was always your money to begin with!; and
- Investors do need to bear some responsibility, though you are often not presented with honest and clear enough information on which to base your decision. Many apologise for asking questions about fees: “I hope I am not being rude or anything, but how much does this product cost?” I’ve heard that more than a few times. Many do not even ask, which is an even greater concern.
These fee structures penalise you when life happens, as my new client is finding out. Investors who can stick it out can potentially extract value, but the odds that they will are low.
The reason the “benefits” are loaded at the end is to stack the odds in favour of the provider. Compounding can make it difficult for you to maintain increasing premiums as you approach retirement.
Industry beliefs that support the sale of expensive RAs
Whenever old generation RAs are being debated, providers raise three points in their defence.
- If we do not pay commissions upfront, how are young advisers meant to enter the industry and survive? But should you even be taking advice from matriculants or graduates? And why should you be expected to fund the advisers’ entrepreneurial ambitions? Is this not an admission that these fee structures are not designed with you in mind?
- There is research which shows that forced savings help. I’ve asked for this famous research many times. It never arrives. Google hasn’t had much luck finding it either. I have, however, seen some truth to this where investors have been invested in products for many years, and they have accumulated a substantial amount of capital. They would have had a lot more if they invested in something cheaper, but at least they have something where they might have had very little if someone hadn’t convinced them to invest.
- When you factor in the tax deduction the return on RAs are good even if they deliver low returns. The tax benefit is for you and you alone — there is no reason for the provider or the adviser to include it in performance calculations.
RAs offer great benefits that investors are increasingly accessing through well-priced and flexible policies. These benefits — tax efficiency, estate planning benefits, creditor protection, and so on — are the ones which apply to all RAs. However, as investors you need to be aware of the pricing strategies that may accompany them and nullify these benefits in the process.
Gradidge is co-founder of Gradidge-Mahura Investments and holds the Certified Financial Planner® designation.
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