The image makeover that annuities have undergone of late is enough to make Anthony Weiner envious—and to make advisors such as Christine Proulx take notice.
“They’re not the devil anymore” in the eyes of the investing public, observes Proulx, founder and president of Proulx Insurance & Financial Services in Kingfield, Maine.
Indeed, quite the opposite. The recent surge in demand for annuities—particularly fixed index, immediate and deferred income products (see the sidebar on page XX for figures documenting the sales uptick)—suggests the retirement-minded public clearly views these products as a godsend for the features they offer to protect a retirement nest egg against longevity risk, loss of principal (with fixed products), inflation, market volatility, and spend-down from an expensive long-term care event.
An annuity’s lifetime income guarantee (typically packaged as a rider available with variable and fixed index products) also protects clients in the event their drawdown strategy falls short of expectations. For example, as the authors of The 4 Percent Rule Is Not Safe in a Low-Yield World point out in their 2013 Journal of Financial Planning paper, in today’s environment, the legitimacy of the 4 percent initial withdrawal strategy for retirement income “may be a historical anomaly, and clients may wish to consider their retirement income strategies more broadly than relying solely on systematic withdrawals from a volatile portfolio.”
While annuity products and features needs aren’t a retirement income panacea, Proulx and a growing contingent of other advisors are scripting a key role for annuities in the retirement income strategies they craft for clients.
For Stan Haithcock, aka Stan the Annuity Man, an annuity-focused advisor based in Ponte Vedra, Fla., the primary role for annuities in the context of a retirement income strategy is to transfer those aforementioned risks to the insurance company underwriting the contract. “I don’t think they’re market growth products,” he says. “Annuities, to me, solve for lifestyle.”
“An annuity is just another piece of the [retirement income] puzzle,” echoes Rick Bindler, AIF, director of retirement plan solutions at Partners Wealth Management in Naperville, Ill. As such, they’re most effectively used in tandem with a pension or retirement plan, Social Security and perhaps other vehicles that produce income, such as investments in alternative asset classes like REITs and limited partnerships, adds Joe Lucey, RFC, president of Secured Retirement Advisors in St. Louis Park, Minn.
When a pension or retirement plan plus Social Security don’t wholly meet a client’s retirement income needs, Lucey says he looks to an annuity to bridge that gap and absorb the risks to which a retirement nest egg is vulnerable (outliving one’s savings, loss of principal, inflation, etc.). Doing so “frees the client to seek more growth and take more risk elsewhere in their portfolio.”
Why FIAs are gaining favor
“A lot of my clients want a guarantee of lifetime income,” says Proulx. “Another big concern for them is maintaining their purchasing power by having income that’s indexed to inflation.”
For them, often the best solution, she says, is a fixed indexed annuity (FIA) with riders that provide guaranteed income for life, indexed to inflation. That combination “is a great feature for a lot of retirees.” And in many cases, she notes, getting it via a fixed index annuity is preferable to getting it from a variable annuity, because of the principal protection afforded by an FIA. Fees for income guarantees also tend to be lower with FIAs, adds Lucey.
More advisors are steering clients toward riders that allow contract-holders flexibility in when they turn on the income stream, whether it’s five, 10 or more years into retirement, relying on other income sources in the interim. Riders that provide access to funds to cover limited long-term-care costs also appeal to certain clients, according to Proulx.
During a retirement income discussion with clients, whatever their priorities, it’s important to clarify that the FIA is there primarily to provide protection, not growth, says Lucey. “I think fixed index annuities should be sold against other safe assets, like CDs and money market accounts,” rather than against equity-based vehicles.
The challenge for advisors is finding the ideal combination of annuity features, at the right price, from the right insurer. Proulx says she considers only contracts from carriers rated A- or higher. Moving parts such as bonusing policies, roll-up rates, interest calculation methodologies and the like also figure prominently in the evaluation process, adds Haithcock.
Immediate income or deferred?
As recent sales statistics indicate, deferred income annuities (DIAs) and immediate annuities are also gaining appeal as retirement income vehicles. Either may offer a tax-efficient way to turn non-qualified assets into an income stream, immediately or sometime in the future, says Lucey.
In the latter category, the DIA provides guaranteed annual income payments, typically between five to 15 years from issue. While guaranteed payout amounts from a DIA tend to be higher than those from an FIA and variable annuity living benefits, the tradeoff is there’s no account value for the client to access, an important liquidity concern.
Still, with a DIA, “in some cases, you can take non-qualified assets, place them into an annuity that will pay out in five or 10 years, and that income may be tax-free because it’s considered return of premium.”
A newcomer in the annuity mix, DIAs are fast gaining popularity for the strength of their income guarantees relative to many FIA and variable annuity guaranteed income riders, observes Haithcock. The trade-off in this case is that DIA income guarantees often are less flexible than those that come with FIAs and VAs.
When a client needs income immediately, Haithcock says he often turns to immediate annuities—usually with a cost-of-living-adjustment rider. In certain scenarios, to address interest-rate risk, he’ll use an income laddering strategy that involves multiple immediate annuities with staggered terms.
Are in-plan annuities worth a look?
Annuities aren’t just efficient for turning non-qualified money into retirement income. An emerging class of in-plan annuity products are providing participants in qualified retirement plans with a means to convert plan assets into a guaranteed income stream, Bindler points out.
“The concept, I think, is great. But it does have its issues,” he says.
Retirement plan providers have slowly begun to roll out in-plan annuities that come with downside principal protection along with the opportunity to participate to some extent in market gains, with a guaranteed income stream for retirement. “That’s a good thing,” says Bindler. What’s not so good are the fees to secure that income guarantee, he notes. Nor at this point are in-plan annuities as portable as other retirement plan products.
The in-plan annuity “is a tool that people have to be careful to use wisely,” he advises. “It’s important to be aware that once you annuitize, you no longer have those liquid assets. Annuitize your entire 401(k) and you may run into a real liquidity issue.”
Another emerging product, the growth-oriented variable annuity (GOVA), may also be worth considering in the context of a retirement income strategy. While only a handful of companies currently offer them, they, like FIAs, can offer the combination of protection and growth, with the ability to convert contract funds into a guaranteed income stream later.
And in cases where a client is short on retirement savings, the more aggressive stance afforded by a pure variable annuity, in tandem with a guarantee retirement income rider, may be the best—albeit riskier and perhaps costlier—option, says Bindler.
Ideally, he asserts, a retirement strategy should be built to deliver “both income and growth,” while protecting a client from outliving their assets. Given their ability to address those and other issues, it’s no wonder annuities are enjoying a renaissance.