Indexed Annuity Benefits: What You Might Not Know
January 9, 2010 by Sheryl J. Moore
As an indexed product industry analyst, I frequently am asked, “Which crediting method is best?” I believe producers should be more concerned about the contractual provisions I call the “base product.” One such feature that is less emphasized but so important is the death benefit — what the beneficiary will receive in the event of the owner’s/annuitant’s death. Only 70% of indexed annuities provide the full account value upon death.
You might think that a death benefit is a straightforward feature on an indexed annuity (IA), and perhaps at one point it was, but that is not the case today. Most agents would like to believe that most IAs pay the beneficiary the full account value (the gross value without a deduction for existing surrender charges or market value adjustments), but that is not always the scenario. A review of the indexed annuity market indicates that nearly 30% of IA products have restricted death benefits or pay out less than the full account value at death.
The reason for the restrictions on older issue ages is because from the insurer’s standpoint the annuitants are closer to dying, and this translates into less time for the insurer to invest the annuity premium to make a return and pay expenses.
With some indexed annuities, the client’s only opportunity to obtain their full account value is to annuitize over a minimum five-year period certain. The alternative? The beneficiary will receive the greater of the premiums paid (less withdrawals), or the net cash surrender value (subject to surrender charges and at times market value adjustments). Other products offer other benefit combinations at death. All of these are reasons producers need to become intimately familiar with the products they present their clients.
• What is the first-year surrender charge percentage?
• Is it on a scale that declines annually, or is it a cliff-type charge?
Some products require annuitization if the client ever wants the full account value returned upon surrender — an important feature for the client to understand at the point of sale.
Another interesting product design, which is represented by 6.9% of IAs on the market, is a product that does not carry an explicit surrender charge schedule but instead an underlying floor (i.e., 90% at 3%). For this product, if the client surrenders before any gains have been credited (or in the event of a down market), he or she would receive only credited interest on a stated percentage of the premium less withdrawals.
Some indexed annuities credit bonuses on the issue date, at the end of the first year, not until the second year, for every year of surrender charges, and even every three years. You should find out if the bonus is credited on the initial premium, the first year’s premium, the first five years’ premiums, or all premiums. These details can make a big difference
a case with repetitive premiums.
Four carriers today issue products with annuitization-contingent bonuses (3.5% of the products on the market). These products offer a premium bonus with the condition that the product must be annuitized for a minimum period certain of X number of years. Remember, too, that up-front bonuses might reduce the effective surrender charge of the product you are considering.
Where longer surrender charge products used to dominate, therefore, we now see more 10-year products and shorter term designs. These 10/10 rulings also translate into smaller premium bonuses. Ten percent premium bonuses used to be the most common incentive on IAs, but they now come in second to 5% bonuses, with 4% bonuses not far behind. This is largely because of the fact that it is impossible to price an up-front 10% premium bonus on a 10-year product. The bottom line is that surrender charges are coming down and so are bonuses. And if the surrender charges are being forced down, you can count on the commission being lower on new products, too.
Indexed annuities are not complicated; they simply are fixed annuities with another way of crediting interest. But indexed annuities, like automobiles, have many different makes and models, and each one is assembled differently. It is important that producers understand the annuity model so that they can educate their clients on each purchase decision.At least two insurers have filed to enhance the death benefit provisions on their indexed annuities to contractually pay the full Account Value upon death. With the approval of these filings, the number of restricted death benefit products will drop by 10 and more than 75% of indexed annuities will provide full death benefits.Although higher surrender charge products have been more prevalent during the past couple of years, we are seeing a decline in this trend. So-called 10/10 rules, imposed by insurance departments in a number of states, dictate that product designs not exceed a 10-year charge or a 10% scale. This has dramatically affected product design and transformed the competitive landscape for annuities.Although premium bonuses are not contractual provisions and can change in percentage, they have become increasingly creative features from a product-development standpoint. From a consumer perspective, one probably would think a bonus is a bonus — you buy the product and they give you a certain extra percentage the day you submit your premium. This is not necessarily the case, and you need to do your homework.Another feature you would think is relatively simple is the surrender charge or product term. Indexed annuities on the market range from no surrender charge (full liquidity) to 18-year surrender charge penalties. So often, the agent or client might be turned off after he or she finds this out. It is important to delve deeper — to question and find out:Of the 224 indexed annuities available for sale at the end of 2005, 63 different products had some nuance on the death benefit that restricts it to less than the full value. Of these 63 restricted products, roughly half pay the full account value up through a specified issue age (most commonly age 75), but for older ages these contracts must be annuitized (taken as a series of periodic payments as opposed to a lump sum) for a minimum five-year period certain.
Sheryl Moore is president and CEO of AnnuitySpecs.com, an indexed product resource. Ms. Moore has nearly a decade of experience working with indexed products and served as head of competitive intelligence for two key life and health insurers.