Laddered income — back to the future

Insurance companies love income riders. Where else can they get a deal that virtually guarantees that the funds will stay with the insurance company for the lifetime of the client? A deal where they will get fees based on artificially high income account values, whether the client uses the income rider or not (yes, some companies use the account value)? Where they will pay clients back with their own money first, and only take on liability after they run through the client’s assets? And, a deal that, if there are no adjustments in the income rider for inflation (most do not adjust), will pay clients back with dollars at substantially less value than what the client deposited in the first place. I don’t know about you, but I would take that deal all day long.

On the consumer side, it’s true they are getting guaranteed income for life. However, the downside for other worries that consumers rank high on their list of concerns — opportunity risk if interest rates rise (which they will); liquidity risk; business risk (will the insurance carrier be there so many years into the future?); preservation risk (most income riders virtually guarantee that the client will deplete their assets if the income rider is used); and, as mentioned above, inflation risk — is quite high. Many products with income riders simply do a poor job of managing other client concerns which go beyond income.

On the agent side, income riders, while easy to sell, provide the advisor with little flexibility to alter strategies in the future if conditions change or if newer, more beneficial products are offered. Every advisor knows that strategies need to change or be adjusted over time and marrying clients to an insurance company for the client’s lifetime is not always the wisest decision.

There is an alternative to using the income rider that ups your ability to provide more comprehensive and more flexible planning for your clients. That alternative, which I used for many years before income riders became so popular, is a laddered income program.

Laddered income strategies are not new. However, with the coming of ultra-low interest rates, they fell out of favor. In my business, they are back, bigger and better, for both the client and me.

While advisors can customize virtually any income configuration you can conceive, the most popular choice for my clients is a configuration that provides for greater flexibility and protection of assets over time, along with a good amount of income. Note that in my experience, clients will forgo getting the absolute highest income to have more flexibility, pay fewer fees, have greater ability to adjust their income for inflation and be able to take advantage of new opportunities in the future.

Here is an example of a typical laddered income program that I use with my clients:

In this example, the client deposited $800,000 into the program and is projected to get his $800,000 back at the end of the 10-year period. While the ending value is not guaranteed, my clients are willing, for the most part, to take some risk regarding their ending value in exchange for the many other benefits the program offers to them.

When I offer my clients this alternative to a program with an income rider, virtually all of them choose the laddered income. Why? When it comes down to it, clients absolutely don’t want to commit to an insurance company for their lifetime, thus losing all opportunities for change or doing better in the future, all while paying high fees for that opportunity. If, of course, they are not offered a choice, they will buy the product with the income rider, which most are now doing.

The key to the laddered income program is always the last leg. Years ago, when interest rates were higher, the last leg could recoup the initial deposit in a reasonable period of time, leaving sufficient funds available to generate a meaningful income during the income period.

Today, with such low interest rates, recouping the initial investment would require such a large deposit that there would be insufficient funds available for the first two legs to create an adequate income that would justify using this strategy.