The US financial industry does not have perfect disclosure laws, and reportedly more than 80% of financial professionals are not fiduciaries. (Fiduciary is a high legal standard that requires financial advisors to fully disclose to their clients all material facts, including conflicts of interest.) Financial advisors who are required to be fiduciaries at all times There is one category. These are called Registered Investment Advisers (RIAs). RIAs are independent financial advisors registered with the Securities and Exchange Commission (SEC) or state securities regulators.
Most investment brokers and brokerage firms operate under a lower standard than fiduciaries, called ‘fitness’ or ‘best interest’. If the financial industry had full disclosure laws, or required all advisors to be fiduciaries, consumers would be better protected from unethical sales tactics all too common in the industry. You can.
Let’s take an example. When readers of my column contact me with questions, I often schedule a phone call. A reader recently told me about his experience working at a national discount brokerage firm in early 2023. This brokerage managed many of his 401(k) retirement plans for businesses, and when he retired, he rolled over his 401(k) from his employer to his retirement plan. The IRA process at the brokerage firm was straightforward. His IRA was worth just over $1 million. He recently inherited $1 million after his mother’s death and deposited it into a tax account at a brokerage firm. When I met with the company’s “financial consultant,” he explained that he didn’t want to take big risks on his investments.
A financial consultant recommended purchasing two five-year fixed annuities of $500,000 each. One for the IRA and one for the taxable account. He was told that the annuity would be similar to his five-year Certificate of Deposit (CD), with a fixed interest rate that would make him 3.7% over the five years. I was taken aback when he told me about this. I explained that I always advocate for investors to manage their money. To purchase an annuity, you must enter into a contract with an insurance company, which requires transferring control to the insurance company. He believes he will regain access to funds within five years, but he said he is not certain.
So is there a problem here? If investors were happy with their decisions, maybe not. But this conversation prompted me to do some research. The type of fixed annuity he purchased is called a ‘multi-year guaranteed annuity’ (MYGA). Designed like a CD. So, in retrospect, what questions could he have asked his financial consultant before agreeing to buy an annuity?
1. What other low-risk investments should I consider besides annuities? Could there have been a better option?
In my opinion, the CD would have been a better choice. When he purchased his annuity (paying a fixed rate of 3.7%), his CD was available for 5 years with a yield of 4.5%. Brokerage firms have access to so-called “broker” CDs from banks nationwide and are insured by the FDIC for up to $250,000 per depositor bank. Brokered CDs typically have much higher yields than CDs offered by “brick and mortar” banks. A financial consultant could have recommended two of his $250,000 CDs to the IRA and two of his other (from four different banks) to a brokerage account. (This article was posted on May 30th, but 5-year brokerage CDs are available at 4.9% at brokerages. However, many of them are “callable.” Therefore, non-callable CDs I recommend looking for , which is a fixed guaranteed interest rate over 5 years.There is currently a non-callable 5-year CD available at 4.55 percent.)
A fixed annuity with a yield of 3.7% (which he purchased for a total of $1 million) pays out $37,000 annually for a total of $185,000 over five years. If he bought his CDs at a yield of 4.5%, he would have earned $45,000 a year for a total of $225,000 over five years. The CD will pay him an additional $40,000 over his five years (compared to the annuity) and that he will be covered by FDIC insurance and that he will have $1,000,000 fully available at maturity in five years. I understand. In his IRA, the tax impact is identical between pensions and CDs. For his taxable account, pension income is likely tax-deferred, but with tax rates expected to rise in 2026, it’s a small benefit and would have earned more from CD each year.
2. How much commission did the financial consultant make selling the annuities?
It’s impossible to know for sure, but online research suggests that he probably made 2.5% of his $1 million investment. (Another source suggested the commission rate was probably his 4%.) Accepting the 2.5% estimate, he would have made his $25,000 on the sale of annuities. Brokers may also have paid bonuses for selling annuities. Does this matter? Financial consultants (and discount brokerage firms) might argue that it doesn’t matter because the investor didn’t pay the $25,000 directly. I would argue that this is very appropriate, as investors indirectly paid their fees by accepting lower yields on their annuities.
The financial consultant did not disclose how the annuity sales were being compensated, nor did it mention other low-risk investments that may have been more attractive to clients. Another advantage of CDs is that early withdrawal penalties (if an investor has to unlock his CD in less than five years) are usually less than an annuity. For 1-5 years, the typical early withdrawal penalty for CDs is 6 months of interest, whereas the withdrawal penalty for annuities is often 7%. If the CD earns 4.5 percent, this makes him 2.25 percent.
This example conveys the impact of fiduciary standards and the lack of full disclosure laws. Financial consultants are not breaking the law because brokerage standards are low. A clear conflict of interest existed because the financial consultant knew that CDs were likely to be a better choice for investors than pensions. There may have been other investments (treasury bills, bond funds, ETFs, etc.) that could have been discussed with the investor for taxable accounts. For traditional IRAs, a fixed income (or CD) ladder to support a potential Roth conversion in the next few years (which investors are considering) might have been a better choice. Alternatively, a bond ladder designed to provide an estimated RMD (required minimum distribution) might have been a better choice. There may have been some discussion that it would begin within a few years.
Is there a “buyer beware” message here? I encourage you to ask and ask lots of questions to the person giving you financial advice. This applies to financial advisors, financial planners, investment advisors, wealth managers and many other positions frequently used in the financial, banking and insurance industries.
Donna Skeels Cygan, CFP®, MBA, is the author of The Joy of Financial Security and the upcoming book Sage Choices After 50. She ran a commission-only financial planning firm in Albuquerque for over 20 years until her recent retirement. She welcomes emails from her readers at donna@donnaskeelscygan.com. Previous columns are available at donnaskeelscygan.com/insights/.
