Variable annuities are of limited value PERSONAL FINANCE


With the memory of April 15 still fresh, many brokerages, banks and insurance companies are pushing variable annuities -- a complex tax-sheltered combination of insurance policy and mutual fund. With expectations that President Clinton will seek higher income taxes, many taxpayers are becoming more interested in sheltering money.

But the complexity of variable annuities -- together with their high expenses and withdrawal costs -- limits their usefulness to fewer people than the sales forces would like.

Variable annuities are insurance policies that invest in a variety of mutual funds. Because gains in insurance contracts are not taxed, the money can grow much faster inside an annuity.

For example, $10,000 in a variable annuity that pays 8 percent would grow to $68,000 in 25 years. Outside the annuity, the same $10,000, taxed at 31 percent, would be worth $38,300 in 25 years.

The insurance component usually guarantees that if you die prematurely, your heirs will receive at least the money you contributed, plus an occasional "step up" if the account has grown in value.

Still, variable annuities, with high sales commissions and other charges, are not for every investor.

"I think they're highly overused," said James E. Wilson, a fee-only financial planner in Columbia, S.C. "They tend to be expensive, and, if you look at the investments, the performance often is not as good as you can get outside the annuity."

"We don't use them," said J. Michael Martin, a fee-only planner in Ellicott City. "Too many people will choose a variable annuity and ask the insurance agent to put the money in whatever they

decide. Or, they will put the money in a GIC."

A GIC, a guaranteed investment contract, offers a fixed interest rate that looks attractive compared with that of a bank certificate of deposit. But given the expenses, a GIC is a poor choice for a variable annuity.

The combination of expenses, early-redemption fees and government penalties for early withdrawal makes these products unsuitable for people who:

* Do not plan to retire within 20 years. "Our average owner is 51," said Ellie Etter, director of marketing for Fidelity Investment's insurance and annuity group.

* Have employer-sponsored 401(k) plans but have not fully funded those plans to the maximum annual limit -- $8,994 in 1993.

* Have not fully funded individual retirement accounts to the maximum limit of $2,000 for individuals, $2,250 for married couples.

If you are at least in your late 40s and are on track to save more than $11,995 in your 401(k) and IRA this year and have more money you want to save for retirement, you might be a candidate for a variable annuity. Otherwise, ignore sales calls for these products.

An additional cost of a variable annuity is known as the insurance expense, which can be as high as 1 1/2 percent to 2 percent a year.

That is in addition to the mutual fund expense that can range from half a percentage point to 1 1/2 percent a year.

Then there is the surrender charge. Most variable annuities have a surrender charge of 6 percent to 8 percent, declining to zero after six to eight years. If you expect to leave the money in that company's annuity at least that long, the surrender charge may not matter.

If you find an annuity with another company whose funds perform better and has lower expenses, you are stuck until the surrender period ends.

Finally, the government imposes a 10 percent penalty on withdrawals made before age 59 1/2 , another reason to think of variable annuities as long-term vehicles. You can do a "1035 exchange" and transfer the money in an annuity from one company to another without a government penalty. The new company can help you with the 1035 form.

Although there is no getting around the government's early-withdrawal penalties, there are ways to minimize the expenses and avoid surrender charges. As the variable annuity business has become more competitive, some companies have made these products more attractive.

For example, although variable annuities sold through the Vanguard Group in Valley Forge, Pa. (800-522-5555), carry a $25 record-keeping charge, they have some of the lowest insurance and fund expenses in the industry. The Vanguard Variable Annuity Plan Equity Index, for example, has a total expense of 0.87 percent. And it has no surrender charges.

Vanguard has a variety of stock and bond funds that perform quite like the company's regular mutual funds.

The Vanguard Equity Index annuity, for instance, seeks to mirror the performance of the Standard & Poor's 500 Index, the same goal as that of the Vanguard Index 500 fund.

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