Annuities Face Uncertain Future If Rule 151A Goes Through
January 7, 2010 by Kevin Cloud
It is ironic that an insurance product valued for its certainty faces a very uncertain future. Yet, that is the situation for fixed indexed annuities.
The Securities and Exchange Commission’s attempt to annex FIA supervision via Rule 151A is mired in legal and political limbo, with no resolution in sight. Recent developments make supervision practical in 2013 at the earliest. Still, the ongoing uncertainty has lead to a de facto freeze in new FIA product introductions, as insurers make contingency plans under plausible outcomes but hold back on market action until a final ruling is made. Once a final ruling is reached, expect a flurry of FIA products to hit the market.
What will the fixed annuity landscape look like if the SEC becomes the FIA regulator de jure? FIAs will not go away. They will still be available, though they will likely look very different than today. The impact will not be limited to FIAs—other insurance products will change too, both in design and market prominence.
Consider these possible implications:
Fixed indexed annuities as securities: As securities, FIAs will probably move closer to variable annuities on the risk/return spectrum. Insurers will lower guarantees, though they will not eliminate them entirely. Right now the lowest return on an FIA index strategy is 0. As a security, the minimum guarantee could be even lower.
It is unknown what kind of guarantees the SEC will even allow. Spending less on guarantees will leave more money for capturing index performance upside. Insurance carriers will need to spend more for securities-related supervision and requirements. Those costs will ultimately be passed through to consumers and distributors.
No matter what the upside-potential/downside-protection structure looks like, the benefits to consumers will be lower. Distributors will find their commissions reduced because of broker-dealer supervision cost.
Fixed indexed annuities as insurance: Whether for reasons political or theoretical, the SEC has not completely prohibited FIAs as insurance.
Rule 151A leaves the door open for indexing to continue though most existing strategies will not be viable and new, compliant strategies will likely be more complicated. A variety of strategies will be possible, though making them marketable, administrable, and hedgeable, while avoiding securities classification will be difficult.
However, index strategies alone will not dictate the success of next-generation FIAs. Secondary benefits, such as withdrawal and enhanced death benefits, have become an FIA staple. The index chassis remains the critical component, but the exact structure may not be important, and other benefits can drive sales.
Fixed annuities, non-indexed: The expensive, arduous process of offering FIA securities and the changes required to retain insurance status will force some insurers to exit the FIA market completely. These companies will augment their fixed annuity portfolio. The secondary benefits that drive FIA sales can be attached to fixed annuities, a tactic some companies have already employed. Expect other innovations in the non-indexed fixed annuity universe as companies apply development resources previously allocated to FIAs.
The impact of FIA regulation by the SEC will not be limited to annuities. Effects will ripple into other insurance lines as well.
Indexed universal life insurance: The SEC has made no attempt to regulate IUL, so for now the product remains a viable index platform. IUL has not made the impact FIAs have, but it is a relatively unexplored arena.
To fill the potential void left by FIAs, there would undoubtedly need to be changes in the way IUL products are structured. What would an indexed life insurance product intended to fill indexed annuity needs look like? Is single premium indexed life the answer? There will be attempts at selling IUL in lieu of FIAs, and the company that figures it out will find itself in a great position.
Linked benefit insurance: This is a generic term for a product that joins two or more primary insurance benefits. An example is the annuity/long term care combination that is possible now that the Pension Protection Act of 2006 is effective. This type of product could fill the void left by a diminished FIA marketplace.
If the SEC gains control of FIA regulation, there will be significant product and market changes. If it does not gain that control, there will be significant product and market changes. Although possible SEC control of FIAs has recently been delayed, companies should be planning 151A contingency strategies and securing the necessary product development, actuarial and implementation resources now in order to ensure market continuity.
Kevin Cloud is vice president and product actuary for Creative Marketing, Leawood, Kan. His e-mail address is KCloud@creativemarketing.net.