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Retirement Planning > Spending in Retirement > Income Planning

Impaired risk underwriting and the immediate annuity market

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Short History

Ten years ago, with great fanfare, LIMRA authored a research briefings paper article[i] regarding current SPIA impaired risk market participants and its high hopes for their expanding role in income planning. At the time, seven carriers, including my old company, Presidential Life Insurance Company of Nyack, New York (Presidential Life), were active in that segment of the immediate annuity market. An additional ten carriers were contemplating market entry within the next six months.

While impaired risk annuity underwriting has always been available in the structured settlement annuity (litigation annuities) markets, in 2001, the NAIC set guidelines for retail SPIAs. The guidelines established “favorable carrier reserving” for annuitants with impaired health starting with those risks set at table four or lower. In one form or another, all states but New York eventually adopted the revised reserving standards. So, everything looked rosy at the time.

Fast forward to 2015, and there is one major participant barely hanging on. So, what happened? A few carriers just new to the process in 2005 were “adverse selected” and were compelled to abandon the market; some carriers, like Presidential Life, were acquired and new owners were not interested in that business; and then, of course, 2008 got in the way and consequently capital became scarce with executive management/shareholders placing higher and higher return expectations on remaining available capital.


These contacts and their underwriting are still very much needed today. An actual case I recently worked on involves a 17-year-old child who had severe medical limitations resulting from a medical malpractice incident occurring at birth. While there was an eventual financial settlement, the boy’s guardian(s) elected to only partially settle the award via litigation annuity contracts and took the bulk of the award in cash to be invested and professionally managed. Now, many years later, with their investment elections suffering due to poor performance and high fees, there is no opportunity to further purchase litigation annuity contracts. A litigation annuity contract purchase has to be elected at time of settlement or award.

How, then, to make up for lost ground? New medicals, in this case, a permanent and stationary medial report conducted by a licensed medical examiner/professional, was submitted to the SPIA underwriter (not the same as a life underwriter). As the carrier and the underwriter evaluated this proposed annuitant for the purchase of a “20-year-period certain and lifetime thereafter payment contract (20CL).” In this case, only the life contingent portion of the annuity is underwritten and not the initial 20-year-guaranteed payment period. For this case, the underwriter gave the boy a “rated age” of 55. This means, while the boy is only age 17 chronologically, the underwriter feels the boy has the same lifetime expectation of a standard, healthy male age 55. This underwriting increased his annual guaranteed annuity income by almost 30 percent. While the litigation annuity contract income is completely non-taxable, the SPIA income is taxable as ordinary income. However, due to extraordinarily-high, annually-recurring medical expenses, as the boy cannot conduct any activities of daily living (ADLs) and requires 24/7 nursing care, the increased SPIA income is effectively not taxable due to high medical cost income tax deductions for that care.

In this case, the carrier’s impaired risk pricing decision substantially increased the boy’s annual taxable income from $21,769 to $32,500 (about a 50 percent increase). Then of course, there is the additional annual $15,444 of non-taxable income premium cost recovery to consider. The difference is while the carrier is free to price the annuity income as they deem appropriate for the risk, this pricing decision does not affect the amount of the annual premium cost recovery permitted by the IRS.

For premium cost recovery purposes, the boy’s chronological age (17) must still be used. Based on his chronological age, the premium cost recovery duration is 64.75 years determined by the premium cost of $999,999. This means, not only does the custodian get to spend all the taxable income, but he can also spend all the non-taxable income as well, freely knowing, as with all SPIAs, any premium cost recovery spent will not impact the amount of future taxable income levels produced by the contract. SPIAs, because of their design, don’t require capital reinvestment to maintain their annual taxable income level.

Injured individuals with impaired health need these contracts to increase their incomes and protect their future “retirement” prospects, because, regardless of chronological age and for all intents and purposes, these individuals are really retired. They cannot afford financial loss because they can no longer replace the capital producing their annual incomes. They are the most financially frail part of our society. Permanent annuity contracts (SPIAs) insure their financial futures. That’s the idea–always keep your hands up!

Brokerage Tip Note: SPIA Breakpoint Pricing

One thing to watch out for, also not published or too widely known, is generally; for premiums of $1,000,000 or more, some carriers have internal price breakpoints. Agents placing jumbo SPIA premiums should look at pricing around breakpoints of $500,000, $1,000,000, $2,000,000 and $5,000,000. You may find that a premium of $999,999 produces substantially more annual income for any given SPIA than a premium of $1,000,000 because at $1,000,000, you breached an undisclosed SPIA breakpoint premium for that particular variability and carrier.

[i] “Present and Future Prospects for Impaired Risk Annuities”, Drinkwater, Mathew and Beatrice Dan Q., Research Briefings, Number 2, January 2005


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