GMWBs Move Up As Another Living Benefit Guarantee In VAs
The past five years have seen a considerable amount of product design creativity in the area of living benefit guarantees on variable annuities.
The two primary approaches to such guarantees have been guaranteed minimum income benefits and guaranteed minimum account balances. Now, a new guarantee is on the rise, and the market will want to follow it closely.
First, here is a recap of the mainstream guarantees:
GMIBs guarantee a minimum life-contingent payout if the policyholder annuitizes after the VA has been in force for a defined minimum waiting period, usually seven to 10 years.
GMABs guarantee a one-time adjustment of the policyholders account value to a defined account value floor on a specified date, if the actual account value at the time is lower than the floor.
Both GMIBs and GMABs have advantages and disadvantages. Some people are critical of GMIBs because, to realize the guarantee, the policyholder must annuitize the VA under a life contingent payout. On occasion, the longer waiting period is also cited as a negative for GMIBs. As for GMABs, they are sometimes viewed as either too expensive or too restrictive in the choice of variable subaccounts that are available to maintain the guarantee.
Today, however, a third approach to guaranteed living benefits in VAs is emerging. Called a Guaranteed Minimum Withdrawal Benefit–the GMWB–it has characteristics of both the GMIB and GMAB and has been available in VAs of several carriers for some time. Today, a number of new GMWB designs are in the pipeline at many different insurers, so the feature is now drawing much broader attention.
Under a GMWB, the policyholder is not required to annuitize the VA in order to enjoy the guarantee benefits.
On the other hand, the contract holder cannot withdraw the fully guaranteed account value in one lump sum. Instead, the GMWB permits the contract holder to withdraw each year up to the stated percentage (typically 7% to 10%) of total premiums paid, irrespective of the contracts actual account value.
The GMWB allows for such guaranteed withdrawals for a specified number of years (usually they neednt be consecutive years) or until the original premium is recovered.
In effect, the GMWB is similar to a return of premium GMAB, except that the funds must be withdrawn over a larger number of years. In any year, if the actual amount withdrawn exceeds the maximum annual (7% or 10%) amount, the GMWB benefit is either lost or reduced.
GMWBs are appealing because their costs are relatively inexpensive (15 to 30 basis points annually) and because carriers normally do not restrict the subaccounts that can be invested in while maintaining the guarantee.
The costs are relatively inexpensive, because the extended withdrawal period (10 to 15 years) allows the natural economic market cycles to operate, lowering point-in-time market risk. Policyholders also enjoy the control they maintain under GMWBs to elect whether or not to take a partial withdrawal, and if so, the dollar amount of the withdrawal.
GMWBs can and are being designed with other twists. Some of the moving parts include: the length of the waiting period before withdrawals can begin; resetting the benefit at future dates; adding the GMWB to in-force business; and the GMWBs interaction with other VA benefits, such as the GMDB.
A cautionary note: Insurers should take care in addressing the risk that GMWBs can pose. Since GMWBs are optional provisions, it is reasonable to expect that a certain amount of anti-selection will occur among those choosing the benefit. Therefore, those selecting the GMWB should be expected to use it, and product pricing should examine profitability under scenarios of heavy withdrawal usage.
Further, for purposes of reserves, capital and economic cost calculations, insurers should dynamically model the economic impact of unfavorable market scenarios on GMWB costs.
Reinsurance of any guaranteed living benefit is difficult to obtain at present. The risk profile of GMWBs is uncertain enough that most direct carriers prefer to reinsure at least some of the underlying GMWB risk. However, in the current climate, insurers may need to be comfortable in managing market and behavioral risks internally.
The development of guaranteed living benefits for VAs is challenging, but designs continue to evolve. GMWBs may represent the latest compromise between cost and performance protection, but they will assuredly not be the last.
Timothy C. Pfeifer, FSA, MAAA, is a principal at Milliman USA, a Chicago actuarial consulting firm. His e-mail is firstname.lastname@example.org.
Reproduced from National Underwriter Life & Health/Financial Services Edition, December 8, 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.