As most of my readers know, my blog is designed to inform clients about issues related to financial planning, investment products, and the economy. Lately I’ve been fielding more questions than usual about the various annuity products out there and which ones are best, the worst and potentially the most interesting. It’s also no surprise that variable annuity features and riders change frequently to correspond to changing market conditions and current client needs. It would be nearly impossible for the average investor to be fully informed about the differences between variable annuities offered by Prudential, Jackson National, Nationwide, AXA, Sun Life, Transamerica, etc. Well, this post should provide some clarity and also give you insight into how the insurance companies think about and price these products. Note: While some of the information below is still accurate, the various annuity riders and pricing have changed over the past few years. If you are looking for product specifics which are accurate for 2013 forward, please send me an e-mail or give me a ring.
The largest variable annuity players in 2009 in terms of dollar value of policies written were Prudential and Jackson National. Technically, TIAA-CREF is a top player in this space as well, but because they specialize in pension funds and academia, I’m not as familiar with their products and will not include them on my list. There are other companies which I’m also leaving out simply because I’m not very familiar with their products. It’s hard for any independent financial planner to know every product, so I deal with as many companies as I can handle allowing me to have a diverse knowledge of competing products and make intelligent, informed decisions on behalf of my clients. Here we go:
Basic Features & Benefits of Variable Annuities
As defined by FINRA, a variable annuity is a contract offered by an insurance company that can be used to accumulate savings tax deferred. You allocate your premium among a number of sub-accounts or investment portfolios offered through the contract. Your contract value, which fluctuates over time, reflects the performance of the underlying investments held by the funds you have selected, minus the contract expenses. Withdrawals are taxed as ordinary income, rather than at the lower capital gains rate. If you make withdrawals before you reach age 59 1/2, you may also be subject to a 10 percent early withdrawal penalty. Unlike fixed annuities, variable annuities are securities registered with the Securities and Exchange Commission (SEC).
Return of Premium – Variable annuities generally guarantee that a client will get back at least what they put into the contract through period withdrawals in the future. This provides the basic benefit of knowing that, regardless of market performance, you’ll get your money back in the future. Hopefully you’ll get back more—but at least you’ll get back what you put in.
Death Benefit – Most variable annuity contracts offer the contract owner’s beneficiary at least what was put into the contract originally, if the contract owner dies prior to taking withdrawals from the contract. The advantage to the death benefit is that if a $100,000 contract declines to $80,000 and the contract holder dies, the beneficiary would still receive the $100,000 back. Your death benefit often declines (sometimes rapidly) once you begin taking withdrawals from your contract.
Guaranteed Lifetime Income Riders – The amount of guaranteed lifetime income achieved by variable annuity owners who opt for these living benefits is determined by the age at which the contract owner turns on the income. In cases where people turn the income on early (perhaps during their 50’s) the withdrawal rate may only be 3 or 4% for life. In the case where an investor waits till age 80, they may achieve a 7% withdrawal rate guaranteed for life. The most common ages to start taking income are 65-75, at which point the contract owner will generally get somewhere in the range of 5-6% withdrawals for life based on the protected value of the contract.*
Let’s now distinguish between the major variable annuity providers and offer some benefits and drawbacks for each. The trend which you may notice if you run the numbers is that the actual amount of income received by retirees who elect these living riders is similar in many cases. What differs for the most part is the marketing:
Prudential Lifetime 6 and the “HD” (Highest Daily) Guarantee – The Prudential HD Lifetime 6 Plus guarantees lifetime income based on six percent compounded growth of the variable annuity’s highest daily value. The guaranteed growth rate is offered by Prudential, for a period of time identified in the contract, or until the first lifetime withdrawal is taken. The HD Lifetime 6 Plus replaced the HD Lifetime 7 Plus in 2009, at a time when several variable annuity companies reassessed what they could genuinely afford to offer their contract holders while still keeping the company financially stable.
The HD Guarantee optional benefit (optional at a fee, of course) helps to increase retirement income by locking in the new high value of the account on any day in which it reaches a new highest value. This could be particularly valuable in a market environment in which the account value is fluctuating significantly on a daily basis. Many companies offer monthly, quarterly or annual “lock-ins” but Prudential is offering a daily lock. At the time of writing this daily lock feature adds .85% onto the annual expenses. The product has a Spousal version which protects the income of the client and the client’s spouse. The 6% guaranteed growth on the income base applies to the highest daily value each year.
In terms of ‘ratchets’ Prudential is #1 because they offer a daily lock. If we’re looking at downsides for this product the most glaring will be the right reserved by Prudential at any time to allocate some, most, or none of the account into the Bond Portfolio. These transfers may not impact the income guarantees or protected withdrawal value, but do impact the actual contract value. And as should be clear to any potential variable annuity investors, the actual contract value and “protected balance” or “guaranteed balance” are two separate numbers. In general, having forced allocation models is a risk mitigation strategy utilized by many variable annuity providers, as you’ll see below.
AXA Accumulator – The GMIB benefit on the Accumulator Series offers a 5% compounding return through age 80. It’s also an annuitization product, meaning at some point (age 80) the contract holder will relinquish control of their asset in exchange for some predetermined benefit at some point in the future.
Like many of the other products discussed in this article, AXA has required portfolio models which don’t allow the investor to allocate more than 70% into equities. Also, AXA is not RMD (Required Minimum Distribution) friendly, meaning you may run into an excess withdrawal situation if your RMD ever becomes larger than your 5% withdrawal. Excess withdrawal situations, in a nutshell, may reduce your future income.
Jackson National Perspective II – Jackson is one of my preferred providers primarily because they don’t restrict their investment options the way most insurance companies do. Jackson has about 100 different investment options without any required model. So, rather than forcing the contract holder into a larger bond allocation if your portfolio is doing well, Jackson has to hedge risk on their end instead. Through my research, this is a strong benefit which most insurance companies have slowly drained through the years.
The product, in a nutshell, offers a 6% simple interest for at least 10 years in any year in which you don’t take a withdrawal. Annual step-ups lock in market gains and reset the 10 year 6% period. A double of the income base is guaranteed for the later of 10 years or age 70.
The downfall for Jackson is that they’ve decreased the frequency of the “ratchet” which can hurt the contract owner during volatile markets such as the one we’re in. Whereas Prudential offers the ultimate (daily) ratchet, Jackson’s is annual. However, I think the fact that step-ups based on market performance remain unimpeded by any sort of forced allocation is a major benefit. Assuming Jackson continues to hedge their risks effectively, this contract allows you to invest aggressively (100% equity) while maintaining a bit more certainty about your income payments in the future.
Sun Life Financial Masters – Sun Life credits 7% simple interest to the Withdrawal Benefit Base in any year in which no withdrawal is taken. This benefit is available for up to the first 10 contract years unless the client gets a step-up, in which case the 10-year bonus period starts from the date of the last step-up.
While 7% is a high level of simple interest, your downfalls on this contract are coming from two places. First, they amount which you can withdraw from the contract is restricted a little bit more than some other annuity providers. With this contract, you get 4% from 59-64, 5% from 65-79, and 6% from 80+. This begs the question, what good is growing your income base if you can’t withdraw heavily until you’re over 80? The other common downside here is the forced model—Sun Life won’t let you allocate more than 70% into equities.
TransAmerica “Retirement Income Choice” – This product is also one of my favorites in terms of living benefits currently being offered. It offers a compounding 5% growth based on the previous year’s best Monthiversary. Yes, that’s not a real word, but it is a useful benefit in this market environment. Basically, if the year’s best Monthiversary value is lower than the Withdrawal Base accumulated at 5%, you would receive guaranteed 5% growth on your Withdrawal Base. If your Withdrawal Base stepped up based on the Monthiversary value in the previous year, your 5% growth is based on that amount. Like other annuity companies, the guaranteed annual 5% lasts up to 10 years but does not apply in years when a withdrawal is taken.
The withdrawal tables are as follows. If you begin during ages 59-64, you get 4% for life, 65-74 would be 5% for life and 75+ is 6% for life. The product is RMD friendly which helps avoid excess withdrawals.
Like Prudential, they can transfer up to 30% of the account value into some sort of bond fund.
Nationwide – Nationwide offers 10% simple interest for 10 years. They have an annual ratchet to lock-in market gains. Unlike most of the other carriers, the 10% simple does not stack on top of the annual ratchet. So the market volatility might help you a bit less than with some of the other providers, however, the 10% simple interest is very competitive. Your best case scenario—and something you can rely on—is your income base doubling after 10 years.
The downsides to Nationwide are the forced model (30% into bond funds) and withdrawal tables which are 3% if you turn it on from ages 45-59 ½, 4% if you begin at ages 59 ½ – 64 and 5% at 65-80. To get 6% you’d have to wait till age 81+ which, well, is pretty darn old to turn on your income.
Another important point is that if you take a withdrawal in the first 10 years, your 10% simple interest stops crediting. So you really want to leave your contract alone for those 10 years if possible.
You may notice that the basic features of variable annuities including return of premium and death benefit are fairly standard. What we’re actually comparing most of the time is the living benefit rider attached to each product. Interestingly, the math on these products often works out pretty similarly. What makes one product appear better than another is really just ‘good marketing.’ The same actuaries can jump from one insurance company to the next and, as a general rule, that won’t allow them to take on more risk.
So, what you’ll find is that some annuity products allow the contract owner to build up a larger income base, but then take a smaller percentage of distributions. Others will build a smaller income base but allow for larger withdrawals. Personal preferences may come into play but I’m not sure anyone could determine with certainty that one variable annuity product is “the best.” If there was a product which was head and shoulders above the rest, I would worry that the insurance company is taking on too much risk and won’t be able to pay out the advertised benefits. So like many things in life, if it looks too good to be true, it probably is.
If you’d like to speak with me regarding your specific annuity, please e-mail me or give me a ring during business hours.
Premier Financial Advisors, Inc.
14 E 60th Street, #402
New York, NY 10022
P: 212-752-4343 *231
Guarantees are based on the claims-paying ability of the issuer. Surrender charges may apply. Gains from tax-deferred investments are taxable as ordinary income upon withdrawal. The investment returns and principal value of the available sub-account portfolios will fluctuate so that the value of an investor’s unit, when redeemed, may be worth more or less than their original value. Optional riders may involve additional fees.
Variable annuities are sold by prospectus. For more complete information about underlying sub-account investment objectives, risks, charges, limitations and expenses, consult the prospectus which may be obtained from your financial advisor or the investment company. Please carefully read the prospectus before investing or sending money.
Specifics for each of the annuities discussed above can be obtained by contacting the insurance companies directly: Prudential – 877-458-6413: AXA – 800-789-7771: Jackson National – 800-644-4565: Sun Life – 800-786-5433: TransAmerica – 800-797-2643: Nationwide – 800-848-6331.
Riders are optional add-ons that annuity buyers can choose, usually at extra cost. The two most popular types of variable annuity living benefit riders are guaranteed minimum withdrawal benefits (GMWBs) and guaranteed minimum income benefits (GMIBs). GMWBs guarantee to return 100% of the premium paid into the contract through a series of annual withdrawals. GMIBs establish a floor of future retirement income into which the contract can convert at the holder’s option. Rider benefits can vary by state, and not all riders are available in every state.
Variable Annuities are long-term investments designed for retirement. Withdrawals taken prior to age 59 ½ may incur a 10% federal tax penalty.
Tax Consequences Graph.
Securities and certain investment advisory services offered through: First Allied Securities, Inc., a registered Broker/Dealer. Member: FINRA/SIPC. Premier Financial Advisors, Inc. is a Registered Investment Advisor. First Allied Securities & Premier Financial Advisors are not affiliated entities.