Guaranteed—For Life
Variable-annuity sales are booming — the National Association for Variable Annuities (NAVA) estimates they will surpass $150 billion for 2006, up 33 percent versus the previous year. And it is principal guarantees that are driving that growth, say actuaries. With the stock market climbing steadily higher, investors clearly don't want to miss out on any potential upside in equities. But as so many of them near retirement, they also want a guaranteed source of income that will last — just in case they live to 101 or older or the bottom falls out of the stock market again. The hottest new rider: the guaranteed lifetime minimum withdrawal benefit (GLMWB), which guarantees contract holders an annual income stream for life.
“They are the ‘must-have' feature in the variable-annuity market,” says Susan Sell, actuary with Milliman in Lake Forest, Ill. Indeed, Sell says that 33 percent of all investors got GLMWB riders when they purchased a variable annuity during the first half of 2006, up from 24 percent in 2005. Meanwhile, MetLife, one of the largest annuity distributors, reports it sold $100 million in variable annuities with a GLMWB in December alone. It doesn't hurt that most major insurance companies rolled out new GLMWB riders with “spousal benefits” last year — meaning that for an additional cost, the withdrawal benefit lasts for two lives instead of one.
Guaranteed minimum withdrawal benefits (GMWBs, without the L for lifetime) had already become very popular over the last few years. These riders typically guarantee that the policyholder will get an annual minimum income stream on the investment for a specified period — say, 5 percent annually for 14 years. But the GLMWB takes this one step further — that fixed 5 percent withdrawal lasts for life.
One big drawback: The high cost. GLMWBs cost from 35 to 65 basis points. When added to the other fees attached to a variable annuity, total cost can skyrocket to more than 250 basis points annually. Here's how those fees break down: The average variable annuity sports an annual mortality-and-expense charge of 1.19 basis points, according to NAVA, while the average expense ratio on the mutual funds in the annuity's subaccount is 98 basis points. Meanwhile, enhanced death benefit and other types of principal guarantees can range from 25 to 75 basis points. Most deferred variable annuities also come with back-end surrender charges that typically decline during the first five to seven years of the contract.
Are They Worth It?
Jeffrey Dellinger, actuary and author of Variable Income Annuities, (Wiley, 2006) says that deferred variable annuities with guaranteed withdrawal benefits are typically sold as an alternative to an immediate annuity with lifetime income. The former offers full liquidity and the ability to bequest assets remaining at the account holder's death to heirs. But, it typically costs more and pays out less than the immediate annuity, he says.
For example, according to actuarial tables, a 65-year old that invested $100,000 in a variable annuity with a GLMWB would receive a guaranteed $5,000 in annual income for life. (The account holder can only begin taking withdrawals when he or she hits retirement age.) By contrast, someone who put the money in an immediate fixed annuity would receive approximately between $7,644 (female) or $8,692 (male) annually, according to actuarial tables.
Ultimately, the choice between a deferred variable annuity with a lifetime guaranteed income benefit and an immediate annuity is based on the liquidity, cash flow and income needs of a financial advisor's clients, says Robert O'Donnell, vice president of product development for Prudential Annuities. “People may need a reasonable level of income and control of their investments,” he says. “The real driver is a strong desire for flexibility and a withdrawal base that gives you protection.” Those with greater income needs might select the immediate annuity, while those who need to have more liquidity — perhaps due to health concerns or who want to leave something to heirs, might prefer the variable annuity with the GLMWB.
Or you can do a little of both. “Using immediate annuities and GLMWBs to segment retirement assets is a more thoughtful way to invest,” O'Donnell says.
