Guaranteed Income Across Annuity Products

Withdrawal Guarantees Compete with Income Annuities

Income annuities have been viewed as the most efficient form of income guarantee available to clients due to their product design. Savings annuities, however, often provide higher guaranteed income through withdrawal benefits with very different guarantee structures. CANNEX recently conducted research to explore the dynamic among these guarantees and determine the value of a comparison across different products for clients who are near or at retirement. In this CANNEX study we found that:

• Different types of annuities provided the highest income guarantee depending on the scenario. Any individual seeking to maximize guaranteed income should consider different product types.
• The single premium immediate annuity (SPIA) often provided the highest income guarantee when there was no delay in receiving income.
• For single life contracts with a delay, fixed indexed annuities (FIAs) with a guaranteed lifetime withdrawal benefit (GLWB) generally provided the highest income guarantee.
• For couples, variable annuities (VAs) often provided the highest income guarantee. This is particularly true where there is a difference in spouses’ ages.
• Most savings annuities do not have different prices according to gender. Consequently, women are more likely to achieve higher income from guarantees on these contracts. Furthermore, in situations where income annuities have “unisex” pricing, savings annuities may provide the highest income guarantee.
• There are many cases shown within this research where the income guarantee for one of the savings annuities is nominally lower, but where there is a significant potential for upside due to market increases.

Based on the results of this CANNEX study, it is important for advisors who are looking to provide clients with guaranteed income to consider both income annuities and savings annuity contracts that offer GLWBs in order to secure the highest amount of income. Savings annuities also offer the potential to take advantage of market increases, often with the safety net of a guarantee that is similar to or higher than that of the income annuity. There may be additional reasons to select a particular contract or product type. Nevertheless, the amount of guaranteed income remains an important consideration for any purchase.

Objective

The CANNEX research within this report is designed to examine the value proposition of different annuities for guaranteed income. One aim is to identify possible inflection points where a consumer with a pure income security goal would receive greater income by considering one product type over the other. This research is also useful in evaluating the relative trade-off of other contract features to the consumer.

For example, one kind of annuity may provide higher income while another allows for greater flexibility and greater upside potential. The difference in guaranteed income is effectively the cost of the other features, all other things being equal. There are nuances in structure and assumptions among product types that produce results that vary by scenario. For advisors and consumers, the assessment of these products is not a simple exercise, nor does it stem from a small set of variables. There are many aspects of client preference that can also play a role in decision making, of which guaranteed income is not the only one but remains important.

There is currently no commonly available framework to assess income across annuity product types in the retail sales environment. Furthermore, newer product designs challenge traditional understanding of the roles of different product types. Even in the absence of real-time comparisons across annuities, this research provides useful perspective around their value relative to each other.

Background

Annuities are all designed to increase retirement security. Notwithstanding this singular goal, there are many different types available to investors, all with unique properties. The value proposition for each product relates to the performance characteristics as well as other features. However, that renders it difficult to compare them on a level playing field. Nevertheless, lifetime income remains core to all of them.

Traditionally, product comparisons have been done separately by product type. By using quantitative analysis, it is possible to compare the performance of different products on an equivalent basis. Of course, all annuities provide the option of life annuitization. Typically, this feature is only used through income annuities, whether SPIAs or DIAs. Living benefits are commonly available on both VAs and FIAs, and they add another avenue for retirees to receive guaranteed income for life through a savings annuity while retaining full liquidity. One key difference between income annuities and savings annuities is that the life annuitization is fully exercised with the income annuities.

Furthermore, there are GLWBs available on VAs and FIAs that provide a flexible lifetime income payment that may or may not be exercised, even if elected. With these products, there is always going to be a segment of buyers that never take payments on their guarantees. Assumptions around utilization are built into the cost and, therefore, are ultimately reflected in the value to the client. On the other hand, a key difference between life annuitization and GLWBs is that life annuitization takes advantage of mortality credits; all of the buyers intend to start taking income.

Of course, some will die “early” and those that live “late” are the beneficiaries of that statistical fact. In this instance, the assumptions built into the pricing are based on death rather than elective utilization. The latter varies considerably by insurer, since different sets of clients are likely to have different needs and behave differently. One very straightforward example for this is qualified versus non-qualified annuities.

This is evident in the most recent Variable Annuity Guaranteed Living Benefits Utilization, a joint study by the Society of Actuaries and LIMRA (published January 2018, based on 2015 data). The required minimum distribution starting at age 70½ greatly increases utilization of the GLWB. By age 72, 60% of policyholders with a  VA within an IRA are using their GLWBs, but less than 30% of those using non-qualified assets do so. Clearly, expectations around the ratio of buyers using qualified money to purchase their annuities would greatly affect utilization assumptions. Utilization assumptions also extend to advisor behavior and how efficiently these professionals use a contract. There are many assumptions, pricing preferences, and differences in clientele that multiply to create variations in how insurers manage these businesses.

Externally, it is difficult if not impossible to ascertain how these factors will affect the income the client receives. The new era of innovation in both the annuity contracts themselves and the available guarantees— compounded by fundamental pricing and assumption differences in the products—creates the possibility that the type of annuity that generates the most income may be different depending on the characteristics of the buyer(s).

Results

As the only pure income-generating vehicle, the general assumption has traditionally been that the income annuities always produce the highest guarantee amount. However, due to product design variations and utilization assumptions, other deferred annuities can outperform the SPIA/DIA. Our findings demonstrate that there are scenarios where each of the three product types produces the greatest amount of guarantee. Furthermore, there are situations where a modest reduction in the guarantee can yield a significant potential for upside. The guarantee amount provides an apples-to-apples comparison across all product types. For clients concerned purely with income that will not decrease and with no tolerance for market risk, there is no need to look further. However, it is common among VAs and FIAs that greater market potential comes with a lower guarantee. Consequently, it is also useful to analyze performance in the context of upside potential even though the income annuities have no market variance. Therefore, we also examine the findings along both metrics to elucidate product differences and circumstances where this analysis can be appropriate and valuable for clients.

Guaranteed Income
On the basis of the guarantee alone, the income annuities tend to provide the greatest income for scenarios with immediate income and can also be more valuable for a man. With a delay in income, FIAs often perform best. However, VAs excelled in a number of joint life cases. Complete tabular results with statistical details on performance are available in the appendix of this report.

Single Life Scenarios
For single life, the greater the delay, the more that the FIA typically provides a greater income guarantee than either the DIA or the VA (See Exhibit 2 below). In some instances, the VA also has higher guaranteed income than the DIA, although not as much as the FIA does. The effect is more pronounced for women than it is for men because DIA rates are lower at the same age due to longevity expectations. To better explore this difference, we conducted additional analysis at age 70.

Gender-Based Pricing and “Unisex” Income Annuity Rates
Gender-based rate differences are rare outside of income annuities, although such pricing does exist among FIAs. Therefore, it is fair to say that a woman with a single life contract is likely to see an even greater gain from an income guarantee in a savings annuity. After examining the preliminary data, we expanded our research to further explore this issue. At age 70, there is a stark difference between guaranteed income for men and women, and is past the inflection line where different products provide the highest income depending on gender. If there is no delay, the income annuities provide higher income for both men and women. However, with a delay, men obtain higher income from income annuities, while women receive higher income from FIAs

Upside Potential

While the income annuities have a very straightforward value proposition, the VA and FIA include both inherent and enhanced benefits for policyholders. Germane to the income discussion, the structure of GLWBs usually includes the possibility of guarantee-based or marketdriven increases to the income.

The CANNEX analytics around benefits allows a comparison of the performance of these benefits under lifelike market conditions and a way to gauge the upside potential from these designs. There are circumstances where the upside potential is effectively a “bonus” on top of a guarantee that is already higher than the corresponding income annuity. In the two illustrations for Exhibit 6 that follow, the blue line shows the guarantee for each of the top five contracts. The dots above the blue line represent the increase to income based on market performance, or the upside potential, with the green being the average. Since income annuities have no upside potential, there is only a blue line shown for the income guarantee. Some FIAs have a guarantee that is so rich that there is effectively no market component, in which case all of the dots lie on the blue line. In those cases, the average result is the same as the guarantee. While the averages of two products may be similar, it is possible that one has no chance for providing higher income while another has a good chance of doing so.

Although the average is useful and is our basis for sorting performance, the distribution of results further illustrates where outliers can skew the average and not fairly represent “typical” results. Through this lens, we can describe market performance for the 25th percentile as “mediocre,” the 50th percentile as “fair,” and the 75th percentile as “good.” This sets the stage for performance expectations and an understanding of how much a mediocre, fair, or good market can bump up income.

Read the entire report here.