Plenty of high-net-worth and ultra-high-net-worth clients own several lovely homes, collections of fine art, and even cryptocurrency wallets.
Howard Sharfman, senior managing director at NFP Insurance Solutions, said he's starting to see another, less showy asset stabilizing HNW and UHNW clients' finances: deferred income annuities held inside irrevocable trusts.
Deferred income annuities are about as steady, and about as rigid, as a hunk of granite.
DIAs may be a terrible choice for clients who want to use trusts to support loved ones who will have an urgent need to get cash out to pay the bills. But, "if a client is focused on providing guaranteed income to beneficiaries for a set period or their lifetime, and they are comfortable with the lack of flexibility, a DIA can be an excellent solution," Sharfman said in an email interview. "Everyone likes predictable, guaranteed income."
Sharfman thinks DIAs could become especially popular with HNW and UHNW clients who are trying to establish a stable cash flow for members of future generations.
"Guaranteed income is the anchor that keeps financial plans from drifting," Sharfman said. "DIAs within trusts offer a way to turn that anchor into a legacy."
What it means: DIAs are moving into the standard wealth planning toolbox.
Deferred income annuities: A deferred income annuity, or DIA, is a contract from a life insurer that has promised to pay the owner a steady stream of income at a set date 13 or more months after the original time of purchase.
The contract may pay the benefits for a specified period of time or for the beneficiary's lifetime.
For a wealthy client, the size of the DIA would likely exceed the maximum amount of state guaranty fund protection for annuity value, which is as low as $250,000 in many states and as high as $500,000 in a few.
That means the payment promises are backed mostly by the claims-paying ability of the issuer.
Irrevocable trusts: An irrevocable trust is a legal bucket that can hold just about any kind of asset.
Once the trust creator, or "grantor," puts the assets in the bucket, the grantor cannot take the assets out without getting permission from a court or from all of the trust beneficiaries.
Putting assets in an irrevocable trust moves the assets out of the grantor's control.
Wealthy individuals and families use irrevocable trusts to protect assets from lawsuits, support children or loved ones with special needs, and reduce the risk that an estate will be big enough to owe estate taxes.
DIAs inside irrevocable trusts: A planner puts a DIA inside an irrevocable trust to generate a reliable income stream for the trust. The trust can then take the annuity income and distribute the cash to the beneficiaries according to the terms of the trust, Sharfman said.
Family offices, wealth managers and estate planners can use DIA-trust combinations to structure complex retirement income and estate planning arrangements and protect those arrangements against investment market volatility.
The history: "The use of DIAs in trust structures began gaining traction around the mid-2000s as annuity products became more flexible," Sharfman said. "Trusts, especially irrevocable ones, were seen as an effective way to combine these products with estate planning goals."
Today, he said, planners are using the strategy more often, but it's still somewhat unusual.
"Advisors and clients are more accustomed to traditional investment vehicles like mutual funds or stocks," he said.
Caveats: Some clients want more growth than DIAs can provide.
Stocks, bonds, mutual funds and variable annuities "may be more suitable for clients seeking growth potential and who are comfortable with market volatility," Sharfman said.
Sharfman said some of the other types of clients who may be a poor fit for a DIA-trust combination are those who:
- Hate the idea of locking away their assets.
- Expect to die soon.
- Need liquidity because they have changing financial needs.
- Dislike the idea of paying for annuities.
Credit: Scott Griessel/iStock
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