When Face Value Isn’t Face Value

When Face Value Isn't Face Value 06 24 2014If you buy a government bond with a face value of $1,000, you expect that at maturity you will receive $1,000 for your loan. You can accept that the face value—your $1,000—is something you can rely on.

But when it comes to accepting financial advice at face value? Not so much. When a broker/wealth advisor/financial advisor advises you to purchase a particular stock, bond, mutual fund, ETF, annuity or other financial instrument, your rational thinking should swing directly to the “why” question and whether there is a hidden agenda at play.

Just because a particular financial instrument might be highly rated, have positive past performance statistics, have star managers or accolades galore doesn’t make it right for you, your time horizon or risk tolerance. The information provided by a financial representative might contain lists and lists of features and benefits that all sound great—but that STILL doesn’t make it right for you.

There have been countless examples of financial institutions that manufacture products—such as variable annuities—and then offer high commissions to their representatives to sell them to the public.  Their financial evangelists accept what the company has produced (at face value), buy into the benefits to consumers of these products and simply cannot even imagine why people aren’t lined up to buy.

Taken on face value only, the benefits of deferred income, living benefit guarantees, investment choices, death benefits and bonus credit features sound great, right? But that doesn’t mean they make one bit of sense for you. You want to be asking some pointed questions:

1. Does your tax bracket warrant the current tax deferral?

2. Are the underlying costs inside the contract (each option adds another layer of expense) worth the benefit?

3. Since annuities are taxed at ordinary income rates, are you willing to bet on future tax rates?

4. Are there surrender charges that are spread over a long period of time (typically 6-8 years), locking you into a contract that might not fit your needs?

5. Can you reasonable rely on their choices for the underlying management of your money? And at what cost?

6. Does the bonus interest paid up front impact your annuity payout by setting back your actual age and thereby lowering the amount of money you receive?

7. Do you completely understand all the fees and expenses and how they impact your performance?

8. If you exchange your annuity for another, does it restart the clock on surrender charges?

Similar questions are appropriate when it comes to all financial recommendations. Why is the investment right for you and how does it fit into your long-term goals?  Why is the particular investment being touted—is there a conflict of interest? Does the financial representative earn a higher commission or compensation by using one product versus another?

Be aware that making decisions based on marketing assertions that extoll the features and benefits and underplay the costs, negatives and potential downside is rarely in your best interest.  Your financial advisor should be representing you without conflict of interest—that means they are open, transparent and working under the fiduciary standard. Anything less and you expose yourself to making decisions that can hurt your chances for success.