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Life Health > Annuities

Best Interest Standards, Change and Deferred Annuities

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Some time ago, I got a call from a relative who had bought a variable deferred annuity, with a guaranteed income rider. His accumulation fund had dropped from around $100,000 to $60,000, due to a precipitous decline in the value of the investment subaccounts.

What should he do? Did he just lose $40,000? Was his contract now worth $60,000? His contract could be worth a lot less than $60,000, or a lot more. The actual value would depend on many factors, and a surrender might mistakenly turn an emotional loss into an actual loss.

(Related: 5 Things to Know About Valuing Annuities and Other Client Assets)

As recent market volatility has demonstrated, financial advisors had better be prepared to answer these kinds of questions.

Adding Insult to Injury: New Requirements for Advisors and Brokers

It seems somewhat unfair to require compliance of an advisor but provide no real guidelines or tools to help the advisor. Yet, that’s what’s happening.

Recent changes to the regulatory landscape, by the CFP Board (Code of Ethics and Standards of Conduct), the U.S. Securities and Exchange Commission (Reg BI) and the state of New York (Reg 187), address updates to current best interest standards. The updates will bring deferred annuities more into line with other financial products, and the updates will require that deferred annuities be offered under a fiduciary standard.

As a result, many financial advisors will now need to significantly improve their due diligence, to meet these best interest requirements, for their clients’ deferred annuity purchases and replacements, and for ongoing account management. This should include advice for 1) the estimated evaluation of the clients’ contracts, and 2) the contracts’ need for on-going monitoring and management.

This presents several challenges:

  • There are currently no rules or methods for evaluating a deferred annuity contract.
  • There are no rules for ongoing management and monitoring of a deferred annuity contract after its purchase.
  • Evaluating and monitoring a deferred annuity contract would require very sophisticated software.
  • Although insurance companies have very effective rules for evaluating deferred annuity contracts, some rules could not be used “as is” and would have to be adapted for this purpose.
  • Even if accepted rules did exist, there’s no current resource to champion and shepherd these rules.

Insurance Companies and their Regulators: A Relationship That Works

Insurance companies are required, by law, to hold reserves to meet the future obligations for each and every deferred annuity contract on their books. For statutory reserves, they are regulated by the states, and are guided by their national body, the National Association of Insurance Commissioners (NAIC), with significant participation from the American Academy of Actuaries (AAA).

Insurance companies spend a lot of money and resources to value their deferred annuity contracts, but from their point of view. They use valuation methods such as “CARVM” and “PBR” that are the result of long-term analyses and vetting by the various valuation committees of the American Academy of Actuaries and the NAIC.

As a result, insurance companies are guided by a substantial and well-vetted set of complicated rules detailing how they must value their deferred annuity contracts. in addition, these rules require constant on-going re-calculation of insurance companies’ reserves.

This provides an ideal setup because:

  • Well-vetted valuation rules do exist.
  • A single body, the NAIC, guides and shepherds the valuation regulations.
  • There is strong support from the AAA, a group of highly qualified insurance experts.
  • A strong, mutually beneficial cooperation exists between the companies and the NAIC.

Advisors and Best Interest Compliance: Too Many Regulatory Cooks

Due to a lack of coordination, no recognized method exists for financial advisors to determine the current value of a client’s deferred annuity. Financial advisors also have no guidelines for deferred annuity risk management.

A policyholder approach is needed — one that not only accounts for a policyholder’s age and sex, but also for a policyholder’s goals and targets, future actions, legacy considerations, longevity expectations, risk appetite, tax bracket and benefit preferences.

All of those factors could materially affect the value of the contract.

Future company actions could also have an impact.

Supporting the Community: Goals

I want to advocate a similar relationship for the financial advisor/broker community. Not one that exactly parallels the relationship that exists between insurance companies and the NAIC, but an open participation among the parties. This can be achieved by establishing:

  • An online hub to guide and shepherd these rules.
  • Online cooperation between the hub and the financial advisor/broker community.
  • An online forum for open debate about “the Method.”
  • A set of rules, the Method, for evaluating and managing deferred annuity contracts.
  • An online manual for the Method.
  • Detailed implementation specs for software developers.
  • Numerous use case examples of the Method.
  • Encouragement to software developers to implement the Method for use by the financial advisor/broker community.
  • Ongoing updates to the Method related activities and software availability.

Currently, a strong candidate to play this role is a general method called Best InterestSimulated Evaluation Method (BI-SEM). It addresses the evaluation and risk-management of deferred annuity contracts. It was developed by a team of actuaries and actuarial valuation software developers, myself included.

It’s Stochastic (and That’s a Good Thing)

BI-SEM is a stochastic multi-economic scenario solution. It’s derived from sound accounting and actuarial-first principles, using relevant and reliable figures only, and very similar to the time-tested insurance company reserving methods required by both CARVM and PBR, but from the policyholder’s point of view. In addition, it’s freely available for review and implementation.

For those who are interested in looking at the BI-SEM whitepaper, detailing the Method’s technical specs, visit

BI-SEM looks like a solid candidate, however, a debate here should encourage thoughtful criticism. I fully expect this to lead to a better BI-SEM, or other acceptable methods. Hopefully, this will lead to a method that will gain wide acceptance and adoption by the advisor-broker community and those who regulate them.

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James KavanaghJames Kavanagh is the organizer of BI-SEM, a nonprofit group that’s trying to develop a method that advisors can use to update deferred annuity valuations.


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© 2024 ALM Global, LLC, All Rights Reserved. Request academic re-use from All other uses, submit a request to [email protected]. For more information visit Asset & Logo Licensing.