Why Index Annuities Are Adding Living Benefits
January 9, 2010 by Sheryl J. Moore
- By SHERYL MOORE
Like other annuities, index annuities attempt to differentiate themselves from one another in various ways.
For instance, from offering 3 basic interest crediting methods in the mid-1990s, the products expanded to offering over 40 variations by 1999. Index annuity carriers have also played with offering different indices, trailing commissions, and even a rider to help pay taxes on accumulated interest upon death.
But none of these changes truly excited the marketplace.
Now the index annuity industry is adding a new innovation — living benefit riders or options, in particular the guaranteed living withdrawal benefit. This article examines the new GLWB design and its marketplace potential.
To develop these features, index annuity carriers borrowed from variable annuities, where living benefit riders guarantee a better death benefit, greater certainty of income, or provide a few other benefits.
In VA products, such riders are designed to lower the risk of owning an investment. In index annuities, where the product already offers strong downside protection, the GLWB adds strong income protection. Here is how this came about:
In June 2006, the first guaranteed lifetime withdrawal benefits were introduced in indexed annuities.
For those familiar with GLWBs in VAs, these were a second generation version of the guaranteed minimum withdrawal benefit (GMWB). Where original GMWBs on VAs would typically offer clients [7%] annual withdrawals until a return of their principal, the new GLWBs enhanced that by giving the client the option for return of principal through [7%] annual withdrawals, as well as an option for [5%] annual withdrawals for life, even if the account value falls to zero.
This was a brand-new value proposition for VAs, and it wasn’t long before just about every carrier in the GMWB market was offering this new type of benefit.
Index annuity carriers waited by the sidelines for nearly 2 years after the first VA-GLWB debuted before launching their own such benefit. 2 carriers in particular dove in at the same time. Both introduced GLWB riders in exchange for a 0.40% charge (deducted annually from the account value). Both allowed the client to terminate the benefit at the client’s request. And both determined withdrawal percentages according to annuitant age (e.g., those aged 70-74 receive 6% annual withdrawals).
Carrier #1 chose to take a more simplistic approach in design, with clients being given the option for 5%, 6%, or 7% withdrawals for life, based on age.
Carrier #2 added more bells and whistles to its rider, offering clients withdrawal percentages ranging from 4%-8%. In addition, carrier #2’s clients will receive guaranteed 4% increases on their benefit base over a 10-year accumulation period, or until income starts (assuming 100% of the premium is allocated to index strategies and no withdrawals are taken). Clients can reset the 10-year accumulation period (every 5 years); can take a spousal continuation option; and get automatic step-ups if the account value exceeds the highest benefit base, once income commences.
The 3rd carrier to enter the GLWB niche in the index annuity market just rolled out the feature in September 2006. This carrier took an entirely different approach by embedding the benefit in the product rather than offering it as a rider. Carrier #3 is emphasizing simplicity, so it “charges” clients for the GLWB by permanently lowering the participation rate on the product once income election begins. The withdrawal percentages range from 5%-7.5%; spousal continuation is a standard feature.
What is different about this newest GLWB for index annuities is that clients can stop and re-start their income at any time after election, and the income amount is cumulative as long as the benefit base is not exceeded.
So, what exactly is the market for these new products, the IA-GLWBs? VA sales are up more than 20%, but most agree this is not because of the bull market. Rather, it is because of living benefits. Our firm estimates that over 40% of VA products sold today have the GMWB elected, nearly all of them of the GLWB type, offering the guaranteed lifetime income on a withdrawal basis. The VA carriers are positioning these products as alternatives to annuitization.
That being the case, why shouldn’t index annuity carriers be developing them? For that matter, why not fixed annuity carriers?
The primary benefit of the GLWB for index annuity clients is providing guaranteed lifetime income they cannot outlive. The industry has been trying to communicate this message to baby boomers for years. How to get it there? Maybe the GLWB is the answer. Consider this scenario:
“What’s that?” the advisor asks the Valued Client. “You say you’d like your annual withdrawal of 8%? Absolutely. But you say your account value has fallen to zero? No problem.”
The GLWB is comparable to the benefits offered through annuitization. However, annuitization isn’t a popular alternative today. Recent statistics indicate that as few as 2% of clients annuitize their contracts. So too with single premium immediate annuities. Advisors repeatedly say, “I don’t want to sell my client the SPIA and have them lose control of the contract.”
So, the GLWB may be what everyone has been looking for. It’s a pretty safe prediction that agents will sell the GLWB concept once they understand it because their clients won’t lose control and the agent will get paid more than 4% compensation, too. (According to Advantage Group Associates Inc., the average street level compensation for all indexed annuity products as of 2nd quarter 2006 was 7.05%.)
In sum, with the new GLWBs, agents can continue to sell their favorite index annuities, offer guaranteed lifetime income their clients cannot outlive, and receive the compensation they know and love.