The ever-evolving world of deferred annuities

The deferred annuity world has changed dramatically over the past few decades. There was once a time where an annuity illustration seemed superfluous, especially back in the day when the deferred annuity was akin to a savings account and had few, if any, moving parts. What was once a simple and straightforward product has evolved into a series of products that may often be as complex as some of the more intricate life insurance products.

Over the years, selling deferred annuities has become more difficult. By illustrating annuities, carriers can demystify the complexities of these products and make them easier for producers to differentiate, compare and sell.

How did it all get so complex?

Variable deferred annuities were quite straightforward when they started to make a splash in the financial markets back in the latter part of the 1980s. While the variable annuity sold well, there was still some apprehension on how to mitigate the risk of potential and substantial losses to the annuity amongst those interested in purchasing a variable deferred annuity. It was this desire to mitigate the downside risk of variable annuities that opened the floodgates into many of the product features that deferred annuities have today.

• The guaranteed minimum death benefit. The guaranteed minimum death benefit (GMDB) was perhaps the initial product feature to address downside risk. The GMDB basically stated that the death benefit would not be significantly affected by market downturns as long as certain parameters were followed. Early GMDBs returned the full premium back to the beneficiaries. Then, compound increasing GMDBs came into vogue where the death benefit grew at a certain percentage each year (also known as a rollup death benefit). This was followed by the ratchet GMDB, where the death benefit was set to the highest fund value at certain durations.
• Living benefit riders. As the variable deferred annuity market began to grow in the bull market of the 1990s, “living” benefit riders began to be offered in various shapes and sizes. It was a literal alphabet soup of benefits with acronyms like GMAB (guaranteed minimum accumulation benefit), GLIB (guaranteed living income benefits), GMWB (guaranteed minimum withdrawal benefit), etc. There was even another death benefit rider that enhanced earnings to help the beneficiaries handle any decedent annuity tax liability.

Indexed deferred annuities came on the scene in the mid-1990s and became prominent in the early 2000s when the stock market corrected, leading to substantial losses in variable deferred annuity contracts. While the indexed annuity provides a guarantee and mitigates downside risk, it too has many moving parts and introduced nomenclature such as caps, participation rates and floors.

What impact do these features have on carriers and producers?

Of course, with all of these additional benefits arose new challenges for the distribution/sales force to be able to fully understand and properly sell such products. Administration became daunting as well. As the living benefit riders evolved, purchasers were given multiple choices as to which combination of riders could be selected, as well as the fact that any given rider could have multiple offerings.

All of this flexibility of choice made the potential numbers of rider combinations fairly significant, especially for home office personnel who had to make sure that the administrative system was fully able to handle all the potential combinations. This also created the need to develop a different stream of daily unit price vectors for just about each and every one of those combinations.

A regulatory solution?