Immediate annuities (IAs) are a small segment of the overall fixed annuity (FA) market, pulling in an estimated $6.14 billion in 2006 sales in the United States–just 8.7% of the $70.9 estimated overall market, according to Beacon Research data.
However, IAs also provided the only bright spot in an otherwise bleak 4th quarter, when sales of all product types fell an estimated 15.9% from the 3rd quarter 2006. They were the only FA product type to post a quarter-on-quarter increase.
True, 4th quarter IA sales were up only slightly (2.5%), but this was on top of the 3rd quarter’s 9.7% quarter-to-quarter growth. The line has grown steadily from only 6.1% in 2003.
Why? There appears to be an underlying level of market demand for IAs which operates somewhat independently of the interest rate environment.
Also known as single premium immediate annuities (SPIAs) or payout annuities, these products provide a series of payments for a chosen period–single- or joint-lifetime, or some combination of the two. They are commonly used for income replacement in retirement, often important in distribution of assets for that purpose.
The growth they have been experiencing has occurred even though historically low long-term interest rates are reducing payouts and even though the stock market saw strong growth throughout 2006. A plausible explanation is that SPIA sales are motivated mainly by need, not movements in interest rates or equities markets.
The potential demand is certainly growing as older baby boomers begin to retire. And awareness of the benefits of annuitization is probably increasing due to considerable ongoing positive publicity. As longevity lengthens and concern regarding Social Security’s solvency widens, the SPIA value proposition is both simple and important. They can offer income for a lifetime–income that cannot be outlived–and it appears most buyers are using IAs for precisely this purpose.
Consider: Lifetime payout products accounted for almost 81% of 4th quarter 2006 SPIA sales reported by carriers participating in Beacon’s annual survey.
This indicates that payout annuities are not being used primarily to finance life insurance policy premiums. Neither are they utilized mainly to delay (and therefore maximize) Social Security payments and defined benefit pension payments, nor are they used in tandem with longevity insurance (with SPIA payments ending at the age when longevity payments begin). All these alternative applications involve payouts over a limited time period (a term certain), not for a lifetime.
It will be interesting to see whether term certain payouts claim a larger share of SPIA sales as producers and consumers become more familiar with the ways these annuities can be used to achieve different objectives.
SPIAs are generally not purchased by way of IRA, 401(k) or other qualified plan rollovers. In the qualified market, the percentage of IA sales tends to be the lowest of all product types. In the last 5 quarters, for instance, qualified money has accounted for 26%-33% of participants’ SPIA sales versus 38%-41% of their overall fixed annuity sales. This suggests IAs are being used primarily to supplement income from pensions and other retirement plans (as well as Social Security) rather than as a vehicle to distribute retirement plan assets.
It makes sense to purchase IAs with non-qualified funds if tax minimization is an objective, because an exclusion ratio designates a portion of each payout as a non-taxable return of capital.
SPIAs also work well in combination with systematic withdrawal of retirement plan assets, reducing risk of outliving one’s assets (portfolio failure) and enabling a larger allocation of assets to move to higher risk/reward investments than would otherwise be prudent.
There are signs that payout annuities are more often being used this way, as part of overall retirement plans. For 2 consecutive quarters in 2006, quarter-on-quarter IA sales growth among firms surveyed by Beacon came from distribution channels generally thought to do limited SPIA business–broker-dealers and banks.
B-Ds are most likely to use systematic withdrawal to fund retirement income because they sell higher risk/reward, equities-related investments. Yet their share of IA sales in Beacon studies has been growing slowly but steadily, from 13.3% in 2003 to 17.1% in 2006.
This is an interesting trend, given that B-Ds’ registered representatives are said to dislike SPIAs more than do other producers. Reportedly, they object to the SPIA’s inflexibility and the loss of asset control (and commissions or fees) upon SPIA purchase or annuitization of a deferred annuity. In addition, they view SPIAs as competing with variable annuities having the popular guaranteed minimum withdrawal benefit feature.
Similarly, in the bank channel, SPIAs have typically not been as favored as other products. One reason is that banks view SPIAs as too complex. By comparison, they see fixed deferred annuities as more attractive, because of their similarity to bank certificates of deposit.
It may be that concerted efforts by top issuers to educate producers in both B-D and bank channels about IAs are what is turning the tide.
Meanwhile, independent producers and captive agents remain the most important IA channels, accounting respectively for 41.5% and 28.7% of 2006 sales in the study. These channels did lose market share for 3 consecutive quarters, but they are still the top sellers.
In the big picture, the insurance industry has yet to see the much-awaited boom in SPIA sales. This is so even though the oldest baby boomers are now starting to retire. Perhaps there will be no such boom, despite the rapid disappearance of defined benefit pensions, anxiety regarding the future of Social Security and ever-increasing life expectancies.
That would be a shame. As noted, SPIAs can be utilized very successfully in tandem with systematic withdrawal and/or longevity insurance to create more effective retirement income plans. Because of mortality pooling, IAs offer the most income a client can receive for a given asset size, as well as income that can’t be outlived. Newer SPIAs offer more liquidity, flexibility in size and timing of payouts, inflation protection, and/or legacy for heirs. Given all that, they should be selling well.
As a former producer, I have seen first-hand how a client’s sense of financial security grows when the SPIA checks begin arriving regularly. The clients are so glad they have those checks. This has made me a true believer in the value of these products.
If other producers have similar positive experiences, this will spur motivation to offer SPIAs and sales will grow. The gradually increasing success of fixed IA sales in recent years suggests that just such a process may already be underway. It also suggests that these products are beginning to assume their rightful place in helping fund the retirements of the aging population.