VA Owners Don’t Annuitize, But Do Flock To Systematic Withdrawal Plans

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Second of Three Parts

Income for lifeguaranteed. An annuity is the only financial product that can make this claim, yet less than one-half of 1% of variable annuity contracts are converted from accumulation to income in a given year.

Low annuitization rates and the reasons for them are well known within the VA industry. Through a survey of industry professionals and financial advisors, Financial Research Corporation learned that of the relatively few VA contract owners who do annuitize, nearly two-thirds opt for income over a pre-set term rather than spread payments over a lifetime.

In addition, the vast majority of those who choose to take income from their VAs are not annuitizing, but are using riskier systematic withdrawal plans (SWPs), depleting the average VA issuers assets under management by tens of millions of dollars each year.

Certainty Over Life

In actuarial terms, lifetime annuitization transfers the risk of outliving ones savings from the investor to the insurance company. However, many retirees (and their heirs) fear that they may die sooner than expected and the insurance company will take the fruits of a lifetime of labor. Additionally, worries about unexpected needs for cash after retiring make turning over a major asset to an insurance company an unattractive option in the eyes of these retirees.

In the FRC study, “Opportunity of a Lifetime: VA Income & Product Trends,” participant firms of all sizes reported that the majority of VA contract owners who annuitized their contracts elected non-life contingent, period certain payout options over all types of lifetime payout options. These latter options include straight life, life with period guarantee, life with refund, joint & survivor straight life, and joint & survivor with period guarantee. (See chart 1.)

Lifetime options were chosen by only 28% of clients at large VA firms, 37% at medium-sized companies, and 40% at the small firms FRC surveyed.

For commission-based financial advisors (and advisors are often the driver behind these decisions), loss of control is equivalent to loss of future compensation. Thats not to say that all reps make their recommendations based solely on financial self-interest. However, the irrevocable nature of annuitization can make other options preferable to intermediaries, offering them the opportunity to reposition the assets down the road.

Systematic Withdrawal Plans

Rather than annuitizing, and guaranteeing a lifetime income stream, VA owners prefer by a wide margin to access their annuity assets through systematic withdrawal plans. Under a SWP, annuity shares are liquidated to provide regular payments that are either a specified dollar amount or a percentage of the investors account value.

According to FRCs study participants, new SWPs outnumbered annuitizations by a ratio of 30-1 during the first quarter of 2001, compared to 20-1 in 1999. SWP initiations rose nearly 40% from 1999 to 2000, and increased 62% from 2000 to the first quarter of 2001 (annualized). (See chart 2.)

Many financial intermediaries have limited knowledge of the intricacies of annuitization, including the various payout options. SWPs are more readily understood, as reps routinely use them with their mutual fund clients. And SWPs leave a clients remaining VA assets free for reinvestment (and an additional commission) later.

However, the convenience of SWPs comes at a steep price. Unlike annuitization, SWPs represent a steady, uncontrolled drain on VA assets. To get a sense of the potential impact in terms of dollars, we calculated the first-year asset withdrawals per company, using the average number of SWPs opened and the average value of deferred VAs reported by the same companies at the beginning of each period.

Assuming that the average SWP withdraws funds at a rate of 6% per year, study participants experienced average first-year withdrawals of:

1999: $19 million.

2000: $30 million.

2001: $48 million (based on Q1, annualized.)

Note that this represents just first-year withdrawals for newly-initiated SWPs and does not reflect previously opened SWPs or withdrawals in subsequent years. This should serve as a startling wake-up call for asset retention managers industrywide. These dayswith a substantial drop-off in both net sales and sub-account performance

making up the lost assets under management is a challenging prospect, at best.

Despite the significant asset drain resulting from SWPs, most study participants reported that SWP data was difficult, if not impossible, to obtain. Several respondents cited systems constraints, and for many firms, FRCs request was the first time anyone had asked for detail about how many contract owners were withdrawing assets via SWPs.

SWPs can be dangerous for clients as well. Advisors establishing SWPs usually make assumptions about future performance to determine a “safe” withdrawal rate. If performance stays ahead of withdrawals, a clients assets can theoretically last a lifetime.

But if withdrawals are at a rate thats higher than current performance and eating into a clients principal, an unwatched SWP can be a time bomb.

The best way to keep a SWP in balance and keep the checks coming indefinitely is intermediary oversight. However, those interviewed by FRC said that, during the tough markets of the past 18 months, they have seen no indication of an increase in the number of SWPs being adjusted for current (negative) performance.

In order to encourage annuitization and the sale of income Vasand start locking in assets rather than seeing them flow out the door through SWPsthe VA industry must do the educational leg-work to convince intermediaries that annuitization is good for them and their clients.

Strategies to help VA firms accomplish this goal will be presented in the final installment of our series on VA income and product trends.

Art MacPherson is assistant vice president, senior writer, and Lisa Plotnick, FLMI, CLU, is senior analyst, VA analytical research, with Financial Research Corporation, a Boston-based financial services research and consulting firm specializing in competitive intelligence and analytical services. They can be reached via email at AMacpherson@frcnet.com and Lisa.Plotnick@frcnet.com.


Reproduced from National Underwriter Life & Health/Financial Services Edition, January 14, 2002. Copyright 2002 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.


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