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Can Bolstering Liquidity Spur Annuitization?

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It is difficult, if not impossible, to obtain reliable information regarding how many deferred annuity owners take their contracts to annuitization, but the general impression throughout the industry is that it is only a small percentage who actually do annuitize.

Likewise, only a few people who retire actually purchase an immediate annuity with their retirement funds–either rollovers from qualified retirement plans or other savings sources. Indeed, the bulk of rollovers from qualified retirement plans seem to go into custodial accounts with banks and mutual funds that can offer income only for life expectancy, not for actual life.

The variable annuity industry has recently offered guaranteed minimum withdrawal benefits to VA owners. This feature seems to be garnering wide acceptance, so much so that it is generally considered to be a serious competitive disadvantage not to offer GMWBs. But, if GMWBs are so popular, why are annuitizations not equally popular?

Producers contacted about this almost always answer that annuity owners do not like to lose control over their retirement funds by “tying them up” in annuitization. Owners seem to worry that the lack of liquidity inherent in annuitized contracts does not provide enough flexibility to cover unforeseen emergencies or other contingencies that may occur in the future.

We are sympathetic with this concern. Today the U.S. has the first generation with the potential need to support self, children, grandchildren and parents (and, with increased longevity, maybe even grandparents)–perhaps simultaneously.

Indeed, stories about retirees having grandchildren dropped off by children who cannot cope with the financial and emotional challenges of parenthood are amazingly familiar. Inheriting a grandchild can have a disastrous impact on retirees who have carefully planned their finances but have not factored such unforeseen developments.

Probing a little deeper, it also becomes apparent that many annuity producers dislike the prospect of losing the ability to assist customers with future new products, if all the customers’ retirement funds are tied up by annuitization. Thus, lack of liquidity is a disincentive not only for the customer but also for producers who might like to be able to sell the customer something new in the future.

Some insurers have begun addressing this liquidity problem with annuity features that provide a measure of liquidity. These features range from permitting commutation of any term certain elements in an annuitized contract to providing a retrospective look at the life contingency elements and thereby allowing an element of liquidity.

Such liquidity features can provide a one-time boost, but this is hardly enough to meet prolonged financial needs that were not anticipated.

More on this topic

A relatively new feature to hit the market is a pure longevity product, often referred to as an “advanced life deferred annuity” (ALDA).

The ALDA is a pure insurance product that permits the purchaser to have what amounts to an option on an immediate annuity to begin at a date much further in the future, usually at a more advanced age.

The product is designed to permit older retirees to hedge against outliving retirement funds. But the product is most efficient if it is purchased at a younger age, because the annual cost is lower the earlier the owner starts the program.

While there is an investment element in an ALDA once the contract is funded, during the years prior to the actual funding, the owner has complete flexibility insofar as directing investments and in deciding whether to actually fund the annuity once it’s determined that extended longevity, which prompts the need for such a product, is likely.

We have predicted for quite some time that there would eventually be a greater emphasis on providing pure longevity products for retirees and that such an emphasis would eliminate the need for tying up savings in funded annuity contracts.

Theoretically, there is no reason why a consumer should not be able to purchase insurance against living too long merely as an insurance feature without any investment element involved. The only consideration is the cost for such protection.

Insurers and those who consult with consumers on retirement planning also need to give greater thought to the payout options offered to retirees from conventional fixed and variable annuities that annuitize. Few innovative payout options seem to be available, and those that are seem not to be well understood by producers.

As the U.S. population ages, longevity planning becomes an ever more important element. While annuitization probably still provides the best alternative to solve this problem, the annuity industry needs to better focus on the problem and on solutions.