My review beginning on p. 38 of deferred income annuities (DIAs) (products that delay the start date of annuitization by more than the 12-month time limitation imposed on single premium immediate annuities) provides a generally positive assessment of this recent entrant to the annuity marketplace.
There are good reasons for optimism. As the advisors and experts I interviewed in the feature point out, the products offer the ability to lock in a guaranteed future income stream years in advance of annuitization. And many among the current crop of products offer options—life contingent versus period certain payouts, single premium versus multi-premiums, a return of death benefit or living commuted value—that provide clients with a degree of flexibility not available in earlier iterations.
True, many of these benefits are available in other types of annuities. What really distinguishes the DIA is the product’s internal rate of return (IRR): the rate at which future payments are discounted to equate them to a present value (in this case, the annuity’s purchase price).
As sources point out in the feature, the IRR can be quite high (depending on the period of deferral) because of the accumulating mortality credits. Add to this the DIA’s tax-favored treatment—distributions are a blend of taxable gains and non-taxable basis—and the product might seem an easy sale.
Yet, advisors and consumers have to weigh these benefits against the potential cons. Chief among them: the loss of liquidity that policyholders give up in exchange for the mortality credits they can rack up over a 10-, 20- or 30-year deferral period. Keeping the funds in a liquid cash account may be the more prudent course for clients whose financial situation in (or leading up to) retirement is sufficiently uncertain.
Also to be considered is the opportunity cost resulting from the loss of liquidity. Daniel Flanscha, president of Long Peak Financial LLC, Loveland, Colo., and an adjunct professor for the Graduate Tax Program at the University of Denver, says advisors need to determine whether clients can achieve a higher IRR using an alternative (and more liquid) investment strategy.