I often wonder how we ordinary mortals can sort out what is going on when even the "experts" get confused. As we all know, there has been an ongoing debate about the costs of retirement savings products, particularly retirement annuity (RA) products provided by life assurance companies.
This week at the annual convention of the Institute of Retirement Funds , one of the speakers said that he had looked at the costs of some unit trust RA products and found that they could in fact be more expensive
than the RA products offered by life assurance companies.
This, he intimated, was contrary to the research by actuary Rob Rusconi, who found that life assurance RA products were on average far more expensive than unit trust products.
I think the speaker was wrong. What he was referring to were RA products offered by linked investment services provider companies, which use unit trust funds as the underlying choices. For his sake and yours, I will explain the three ways in which you can access an RA. These are:
1 Life assurance RA products
These products have succeeded in giving themselves a bad name, not only because of high costs, but also because of the confiscatory penalties that are levied by the life assurance companies if you fail to maintain the contributions; even if it is through no fault of your own.
Even the so-called new generation life assurance products are expensive. It appears to me that in most cases the new generation products are merely a shuffling of costs with lower upfront costs but higher annual costs.
And although the confiscatory penalties may be lower, they are still there.
So, in my view, life assurance RA products should come with a health warning "Buyer Beware".
2 Linked investment services provider (Lisp) RA
Essentially, a Lisp offers an administration platform which allows you to access, within a single product, underlying investment choices from a wide spread of companies, mainly unit trust companies, and switch between these investment choices.
The Lisp industry appeared in South Africa in the 1990s and has been responsible for introducing many of the less ethical practices to the financial services industry.
These practices include: offering perverse incentives, such as luxury foreign trips, to sales people; demanding kickbacks from unit trust companies to list their products on their platforms; and, worst of all, the industry has allowed people who are product floggers to become asset management advisers without their having any or minimal skills to do so - with disastrous consequences for many investors.
Lisps do, however, offer a solution for very sophisticated investors (particularly if you use a well-qualified adviser, such as one who is a Certified Financial Planner).
In the wrong hands and with unskilled advice, the Lisp products can be a disaster for you.
Lisp offerings, including RAs, come at a price, which can be as high as the products of the life companies.
The additional problem is that Lisp costs are often multi-layered (with up to five layers) and you are not
always informed of all the layers of costs, let alone the kickbacks that are secretly paid.
Every product layer is also a cost layer. The big advantage of a Lisp RA over a life assurance product, however, is that you are not faced with the confiscatory penalties that apply to life assurance products if you cannot afford to maintain contributions.
There are no penalties for reducing or halting contributions paid on a Lisp RA.
However, because of the cost structure, the Lisp RAs and the rackets that pertain to the industry, there should again be a "Buyer Beware" warning.
An additional warning here is that because these products have underlying unit trust investments, they are being sold as the "cheap" unit trust RA, which they are not.
3 Unit trust RA products
These products are offered by a unit trust management company.
Your underlying investment choices are limited to the unit trust funds offered by the management company.
You pay only the fees attached to the underlying unit trust choice or choices.
The product is flexible and allows you to increase or reduce contributions at will. There are no penalties if you alter your contributions.
In most cases, you can also switch between the unit trust funds offered by the management company without paying any switching fees.
The best known of these products are offered by Old Mutual Unit Trusts and Allan Gray.
Rusconi uses the Old Mutual unit trust RA to save for his retirement. Very few financial advisers will tell you about these products because they earn a lower commission than on the life assurance and Lisp RAs.
Most prefer to sell the life assurance products because not only do they get paid more but also because they are paid the commissions calculated on the size of your contributions and the term for which you contract within the first two years.
There are a limited number of companies offering these unit trust RAs because most of them are involved in selling higher profit life assurance or Lisp products.
An additional advantage of these products is that if you go direct, you will in most cases not pay any commission. This means an additional three percent of your investments will go towards your retirement income.