Variable Annuities Spell Fuzzy Math to Some

WITH A SUCCESSFUL consulting business and a lifetime of savings under his belt, Russell Schellenberger had always thought he'd be able to retire on his terms. Then the tech bubble popped, and the terrorist attacks of 9/11 prolonged the economic downturn. As he inched closer to his 60th birthday, Schellenberger started to worry. "It turned out world events could ruin you," he says. All he wanted was a little assurance for the future — assurance that he and his wife, Marilyn, would be financially secure.

In time he got all that and more, from a financial tool that many investors had grown wary of: a variable annuity. According to the Schellenbergers' financial adviser, a new version of this old standby would let them have it all: investment gains with zero risk, plus a steady paycheck for as long they wanted one. The Cleveland-area couple was sold, handing over nearly $1 million to the insurance company Lincoln National. Schellenberger, an accountant, admits he doesn't fully understand how the company can make those promises. Still, he's glad they do. "We're protected," he says. "If something happens tomorrow, we're okay going forward."

In the world of retirement planning, the "A" word — once something of a scarlet letter — is making quite a comeback. Just a few years ago, variable annuities were shunned by financial advisers and clobbered in the press, criticized as expensive at best and scams at worst. But today anxious baby boomers are embracing a newer version that makes some impressive promises. In 10 years sales of variable annuities have more than doubled, approaching $200 billion for the first time in 2007 — that's something like $750 million in savings being moved into these products every working day. And banks and brokerage houses have tripped over themselves to offer different varieties of this breed: There are now more than 1,100 different annuities on the market, up from 295 a decade ago, according to the financial-services research firm Financial Research Corp.

To some degree the rocky economy has only spurred this Lazarus-like revival, by weakening many of the financial pillars retirees have relied on. Companies are abandoning pensions at an ever-faster rate, for example, while investment returns in 401(k) plans are flatlining. But variable annuities are also hot because the industry has loosened some of the old restrictions on its alluring income-for-life promise. The new pitch: The payments keep coming no matter what happens to the market, and investors can get their savings back. It's an almost irresistible offer — custom-tailored to calm the jangled nerves of this anxious and affluent demographic. And to make it even more soothing, the word "annuity" usually isn't mentioned — Schellenberger didn't even know he'd bought one.

But as attractive as these investments have become, consumer advocates say few buyers understand how the plans work, what they cost and how that might affect the value of those alluring paychecks. (The fees on a million-dollar policy can be more than $35,000 a year.) What's more, even industry insiders worry that some companies won't be able to keep the money flowing down the road. Indeed, in an age of figure-it-out-later financing that helped contribute to the subprime debacle, many annuities rest on a foundation of untested assumptions. Skeptics wonder: Are these annuities a rock-solid promise — or a leap of faith?

AFTER 20 YEARS as a certified financial planner, says Denver-area adviser Mark Arlen, "I can handle anybody." Together Arlen's 500 or so clients are worth about $140 million, and at root most them have the same concerns. If not in retirement already, they're close to it, and these days they're particularly skittish about the markets. Back when the tech bubble burst, Arlen had to work 12-hour days reassuring clients, trying to persuade them not to bail out of the market. That's one reason he likes the new annuities: Thanks to the payment guarantee, he figures he won't have to do as much hand-holding.

Arlen can explain a variable annuity to a client in about five minutes. He starts with the general idea, emphasizing the guaranteed income. Then he reaches for a set of hypothetical performance charts provided by the insurance company. The math behind the charts is hard to follow, but Arlen points out the important part: In 2001 and 2002, when investors overall lost money, the payments from these policies would not have dropped. (In fact, this particular guaranteed-payment option didn't exist then, but this point gets glossed over.) Arlen makes sure to talk about longevity, which he sees as the greatest risk his clients face. "You've got plenty of money if you die tomorrow," he'll say. "If you live a long time, though, we've got problems." If he hasn't already mentioned the tech crash, he'll invoke it here, and if his clients weren't worried about protection before, they are now.

Pitches like that make the annuities relatively easy to sell, especially since clients generally trust their advisers. Arlen says it took "about two years to fully understand" these new guaranteed-payment features, which he first started selling in 2003. Indeed, they're complicated but also potentially enticing. Give an insurance company, say, $100,000 for one of these annuities and it'll typically invest the money for you in your choice of a handful of mutual funds. Even if the investments go south, you'll get a minimum payment every month down the road. (If the investments take off, the payments could grow higher.) And unlike with older variable annuities, investors don't give up control of their assets once they start taking income payments. They can cash out of the account or pass it on to heirs when they die.