Despite Variable Annuities (VA) high fees and hefty commissions for insurance salesman, they can make sense in select cases. According to Mason Dinehart III, a national expert witness and consultant for litigation and arbitration involving securities, insurance and annuities, variable annuities should be viewed as strictly supplemental retirement investments.

These VA’s are generally quite expensive products that make sense if both you and your spouse max your contributions to your workplace retirement account (401(k), 457, 403(b), AND contribute the maximum allowed by law to an IRA.

A September 2011 New York Times article notes that according to Morningstar the average “bare bones” VA will cost investors 2.5%. Let’s review the impact of these fees on investor’s returns. An index funds, with a fee of 0.5%, would see a $50,000 investment, assuming a conservative 5% return, grow to $120,586 over 20 years. A VA with the 2.5% fee would grow to $81,931 a difference of  $38,655 in favor of the index fund. That is a big price to pay for the insurance features of the VA. For some, the certainty of the VA payout may be worth it.

A typical selling point of VA’s is that they are tax deferred until money is withdrawn. At that time the investor is subject to ordinary income taxes. BUT, retirement accounts such as 401(k)’s, IRAs, and 403(b)’s are already tax deferred so the VA deferral is not an added benefit of the VA unless you are maxing out contributions to your retirement accounts.

Surrender penalties are another drawback of VA’s. If you need access to your money in an emergency or just plain want to switch brokerages you may be subject to surrender fees. The surrender penalties typically last 9 to 10 years and carry penalties that range from 5% to 10%.

So, remember, in general, VA’s should be viewed as long-term supplementalinvestments. Investors should note that often, the percentage commission paid to the salesman is often equivalent to the length of the surrender period. This is a good indicator of what the VA salesman got paid.

Many investors are drawn by the ability to annuitize their VA. Please remember that interest rates are at all-time lows. If you annuitize—an irrevocable action—you are locking in at these low rates for the long term! You may one day find inflation rapidly eroding the purchasing power of your annuity.

You retirement depends on your informed choices