Help with annuity decisions - size and ownership.

[scagnt83]

scagnt83 - I've heard of the FIA with income rider. I don't understand it so I haven't really given it much consideration. I totally get how insurance companies are able to make money on MYGAs and SPIAs, but I don't get how they could pay out much more on a FIA with income rider, at least not consistently.

Its the same concept, they make money on the spread between what they receive in returns from holding and investing your money, and what they pay you in interest.

The underlying Index returns are made by purchasing Options on the Index. Options are a leveraged investment. So if you put $1,000 into a product with a 7% Cap on the Index, they only need to use maybe $500 of that $1k to purchase options to cover that return. The remaining $500 goes into Government or AAA Bonds to cover the guarantees made (0% floor). Most of the money made is on the Bond spread, but if the Index Options do really well, they make a spread on that too.

Its essentially an advanced trading strategy that many hedge funds utilize to hedge market risk and guarantee a minimum return on investments. Insurers just packaged it into a retail product for every day type of retirees to benefit from. (instead of only the super wealthy who are only legally able to invest in hedge funds)

You are not directly participating / investing in the index. It is just used as a benchmark to determine what interest rate is applied to the policy.

They are able to give such high returns on Income Riders because it is a very long term investment if the Rider is utilized. Most FIAs with Income Riders are 10 year products, a few are 7 year products. So they are able to purchase 10y Bonds and not 2/3/5 year Bonds like they do for MYGAs. If you activate the income rider you commit those funds to them for life essentially just like a SPIA... so they can then reinvest those 10y Bonds into 15y or 20y Bonds.... which allows them to fund the high guarantees they made on the front end of the Rider.

Its just a normal FIA using 5y/10y Bonds until the Rider is activated. Then it becomes a SPIA like commitment, so they can reinvest at much higher rates to fulfill those guarantees.

And think about it this way, most of the top SPIA carriers dont have the best MYGA rates. So traditionally, the SPIA funds are sitting out there with other carriers until its time for income. Carriers see that as a lost opportunity cost. So they found a way to create a product that gives them your money for the entire period instead of placing it with a different company. It makes you more money in retirement and it makes them more money. Win win.

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An important difference between the Rider and a SPIA, is the Rider still allows access to your Liquid Account Value. Income payments do deplete that value, and eventually it will run out to $0 after 12-20 years. But until it runs to zero, you could access some or all of the liquid value.

Also, many Income Riders now offer enhanced benefits if you need Long Term Care in assisted living or a nursing home. Some will double your income payments for a set amount of years if that occurs. So it offers an extra layer of asset protection on top of the lifetime income.

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Im not saying a FIA Rider is what you should do. Your plan is solid and is the "traditional" income approach using annuities that has been used for the past 50+ years. Its what you like best and what suits your situation best.

But Income Riders have been around now for about 20 years. They have proven themselves to be very useful and most clients end up choosing the Income Rider over the MYGA/SPIA method these days because they generate a larger income stream.

Does all that makes sense?

 

[scagnt83]

There is also a 4th annuity product called the "Deferred Income Annuity" (DIA). Basically it just gives your funds a fixed rate like a MYGA during deferral, and then a payout rate for Income like a SPIA.

Most carriers just increase the payout rate instead of assigning a set fixed deferral rate. So you dont know if your funds are really receiving 2%/3%/4% etc during deferral. Its just the longer you wait for income the higher the payout rate is.

So it really obfuscates what exactly you are getting as far as returns during deferral. It also locks up your money similar to a SPIA during the deferral phase. So I am not a big fan of this product and honestly have never sold one in my 16 years in the industry. But its a thing that exists to consider if you would like to.

 

[Garya505]

scagnt83 - Wow, thanks for the detailed explanation. I certainly appreciate it. It sounds like you live and breathe this stuff!

I'll have to read your explanation a few more times before it sinks in. I understand about the call options and how the index is used. I need to get a handle on all the pros and cons of the SPIA and FIA w/rider. I also need to get a feeling for how to evaluate the caps and spreads.

Can I exchange (1035) a MYGA into a FIA w/rider?

Can multiple MYGAs be exchanged into one SPIA or FIA w/rider?

When the FIA income rider is activated, how is the payment determined? If "it depends", is there a way to simulate this?

EDIT: Also, when the FIA rider is activated, are the payments the same every month? Can the owner choose to take less or more, or stop/start the payments?

 

[scagnt83]

scagnt83 - Wow, thanks for the detailed explanation. I certainly appreciate it. It sounds like you live and breathe this stuff!

I'll have to read your explanation a few more times before it sinks in. I understand about the call options and how the index is used. I need to get a handle on all the pros and cons of the SPIA and FIA w/rider. I also need to get a feeling for how to evaluate the caps and spreads.

Can I exchange (1035) a MYGA into a FIA w/rider?

Can multiple MYGAs be exchanged into one SPIA or FIA w/rider?

When the FIA income rider is activated, how is the payment determined? If "it depends", is there a way to simulate this?

EDIT: Also, when the FIA rider is activated, are the payments the same every month? Can the owner choose to take less or more, or stop/start the payments?

No problem. Some days it seems like I do! lol

MYGA can be 1035d into FIA w/rider. Multiple MYGAs can be 1035d into either a SPIA or FIAw/rider. And a FIA (with or without rider) can be 1035d into a SPIA.

Rider payments are determined by Age. The age banding is set at time of issue. So you know exactly what it will be going into it. An agent can (and should) show income projections at various ages through the carrier illustration system before purchasing the product.

Payments are the same and do not change. Some Riders do have an "increasing payment" option that guarantees increases or increases are based on a set rate, index returns or CPI; just like SPIAs do.

You can start/stop Rider payments at will. You can choose monthly or annual payments with most carriers. You can also choose to take less than the maximum amount available from the Rider. Or change from the max to a smaller amount.


Caps/Spreads: 2 things make comparing them between carriers difficult.

1. Many carriers are using hybrid indexes that other carriers dont have. But most carriers do have the S&P 500 with an Annual Point to Point Cap. That can be an easy way to compare apples to apples how much benefit they are willing to give on that contract.

But an agent can run illustrations that show you historical models for the hybrid indexes. Which lets you compare the performance of the Index and the applicable Caps/Spreads/Participation Rates.

2. Caps/Spreads are annually renewable. Meaning they can and often do change moving forward after the first year.

Some carriers have horrible renewal histories on Caps. Others have very competitive histories. Others are more middle of the road. This is by far the most important aspect to long term performance..... and unfortunately the hardest aspect for consumers to compare. Its even hard as an agent sometimes since not all carriers publish Renewal Rate histories on FIAs.

Working with an experienced agent helps a lot in this situation, as they should have experience with various carriers and their renewal histories. For example, you cant pay me enough to sell a North American/Midland FIA as they have horrendous renewal histories in my experience. Great American on the other hand has barely adjusted Caps on most products Ive sold.

FIAs do have a "minimum" Cap/Spread/Participation Rate on the product. So you know the absolute worst case scenario. But obviously you dont want that, especially since most have a minimum of 1% or 2% on the Cap. But I have never had a carrier go down to a minimum Cap before. And they are interest rate sensitive, so the current rising rate environment should be beneficial to Cap renewals over the long run. The current Caps for new product sales have certainly risen substantially vs. 1 year ago.


Pros/Cons:
- SPIA will usually provide a higher income if you are 1035ing into it and starting income immediately. Sometimes you can find a FIA Rider that will match SPIA rates for immediate income, but most will not.

The FIA Rider beats SPIA income by giving big benefits during the deferral phase. So essentially its beating the MYGA by a huge amount or even a FIA with no Rider by a huge amount. That much larger numbers at income time is what creates the higher income with the FIA.

If you come to me with $500k and want maximum income next month, Im suggesting a SPIA. If you come to me with $500k and want maximum income in 3-15 years, Im likely suggesting a FIA w/ Rider.


- Taxes. This is a big difference.
SPIA spreads taxes and levelizes them over the life of the contract. FIA Rider pays taxes up front until your initial investment (Cost Basis) has been paid in Income. Anything after the initial investment will be tax free. So the tax debate really comes down to the situation.

But you could hypothetically minimize taxes on the FIA Rider by using the Fixed Interest account to minimize gains in the contract. If the Rider uses a fixed rate for accumulation and not the index returns, gains would be minimal compared to the amount of income you are taking out. The numbers would have to be run and the right product found, but hypothetically you could end up paying less in taxes on the Rider vs. the SPIA if you situated the right product.

Also, the higher income amount from the Rider could potentially offset the difference in taxes as well. Again, numbers and comparisons would have to be run by the agent to see.


- FIA Rider gives liquidity the SPIA does not. SPIA locks up your funds and usually has pretty steep charges to get your funds back, if allowed at all.

FIA Rider lets you access the Liquid Surrender Value even after you start Income Payments. Usually you are out of Surrender or close to it when Income starts, so you have a liquid bucket of money to still access if need be, until Rider payments deplete the Surrender Value.

FIAw/Rider also gives liquidity during the deferral phase that rolling 3y/4y MYGAs does not. Rolling the MYGAs restarts the Surrender Charges back to max when rolled. The FIA's surrender charges will decrease each consecutive year. And most MYGAs only allow you to withdraw the interest without surrender penalties. But most FIAs allow you to withdraw 10% of the account value without surrender penalties. (some MYGAs allow 10%, but most dont, especially the really competitive rates)


- Many FIA Riders have the LTC benefits now. I dont know of any SPIAs that offer LTC multipliers if you are confined to assisted or nursing care. Important to note though, the Rider Income must be active BEFORE the LTC need hits. You cant just start it after going into care and still get the enhancement.


- Death Benefit. SPIA does offer various DB options, such as 10y or 20y certain, 25% return of premium, etc. In my experience most people roll the dice and choose "Life Only" to get the highest Income possible.

The FIA Rider will have the liquid Account Value as the Death Benefit. It is a decreasing value once Income is triggered, but something is there for at least 10 years if not 15. And unlike the SPIA, there is no decrease in Income just to have a Death Benefit available for loved ones.


- Both let you add a spouse to income payments, both calculate payments based on the youngest age.


- If you had a Terminal Illness or were confined to LTC, the SPIA generally is not going to give you any type of lump sum if you need it. All FIAs w/ Rider will allow you to access the Account Value as emergency funds if that happens.

Example: If 2 years into taking income you are terminally ill. SPIA just keeps paying income as normal. FIA Rider has only depleted your Account Value by 2 years of income, leaving a large amount still.... that large lump sum will be available, regardless of surrender charges, to fully access.

Same with being confined to a nursing home. SPIA keeps paying the same amount. FIA w/ Rider lets you access that lump sum while still there. Even if the Rider has LTC enhancements, you could choose to stop Rider payments and just take the lump sum if needed.


- Guarantees. SPIA is fully guaranteed. FIA Rider accumulation can be fully guaranteed, but it depends on the Rider, some use Index Returns. The payout rate for income is fully guaranteed for both.


That is about all I can think of at the moment for pros/cons. Ray or Allen might be able to add a couple to the list.

 

[Garya505]

scagnt83 - Wow, that's a lot of stuff to digest. Thanks.

 

[Garya505]

One of things Im trying to figure out is the ownership. I think you said when exchanging from MYGA into SPIA, the owenership (annuitant) must be the same. Since I'm a lot older than my wife, the payout on the SPIA would be quite different. So, I need to figure out how much to put in MYGAs for each of us, or possibly do it jointly.

 

[scagnt83]

One of things Im trying to figure out is the ownership. I think you said when exchanging from MYGA into SPIA, the owenership (annuitant) must be the same. Since I'm a lot older than my wife, the payout on the SPIA would be quite different. So, I need to figure out how much to put in MYGAs for each of us, or possibly do it jointly.

Is your wife still working?

You can do joint ownership for the MYGAs, and it would give the most options when going into the SPIA.

Prior to age 60 is really early to start taking SPIA income and it would be a severe reduction in income to have a Joint Payout.

For example using current SPIA rates:
$100k @ age 76 = $790 per month
$100k @ age 56 = $470 per month

Its best she defer her income for as long as possible before taking SPIA payments to maximize the age based payout rate.

In my opinion, with the limited info given so far, she is in perfect position for a FIA w/ Rider. Especially if she can defer funds for 10-12 years until income starts.

But it comes down to how soon she needs the income. And how much of the total income she would need to live on if you pass away.

Figure out how much she would need, put her as joint (or just primary) on that amount. Then have just you as annuitant on the rest to maximize returns. It could likely make sense to have her defer her holdings until absolutely needed, while you start yours at 77 to replace what was lost in SS. Using the Rider helps that situation since you are able to use less assets to replace the same amount of income

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To give you a quick comparison of the MYGA/SPIA method vs. FIA Rider:

$100k MYGA @ 3.5% for 6 years = $123k
$123k SPIA @ age 77= $9,800 per year

$100k FIA Rider for 6 years, taking income @ age 77= $13,600 per year

Now that is using index returns for the rider, but with 0% index returns it guarantees $8k per year in income. (something that has never happened in the history of the market for 7 consecutive years)

To use a completely guaranteed rider, not dependent on index returns:
$100k after 6 years at age 77= $12k per year


So the FIA Rider can guarantee $2,200 more per year vs. the MYGA/SPIA method. Since you are talking about 4x that amount, it would be a difference of almost $9k.

And that is on the guaranteed Rider. Using the Indexed Rider it could be a $15k difference per year.

I know it sounds more complicated when explained. But seeing it on paper (the carrier illustration agents generate) helps a lot to put all the moving parts and pieces into perspective.

That is the difference in income you get by committing your funds to a single carrier over the next 20-30 years vs. jumping from carrier to carrier. With the MYGA/SPIA method, most people end up using 3 different carriers over that time frame, and the first 2 carriers can only purchase low yielding 2/3/5 year bonds to create their profit spread on.

 

[Garya505]

Wow, even more info!

Obviously I need to do some more thinking about income needed. FIAs are a bit intimidating, but your examples help.


I'm confused by two things:
1. "You can do joint ownership for the MYGAs, and it would give the most options when going into the SPIA."
If the MYGA is jointly-owned, the SPIA for the 1035 exchange can be either single age or joint age?

2. "To use a completely guaranteed rider, not dependent on index returns:
$100k after 6 years at age 77= $12k per year"
What is a "completely guaranteed rider"?

 

[scagnt83]

Wow, even more info!

Obviously I need to do some more thinking about income needed. FIAs are a bit intimidating, but your examples help.


I'm confused by two things:
1. "You can do joint ownership for the MYGAs, and it would give the most options when going into the SPIA."
If the MYGA is jointly-owned, the SPIA for the 1035 exchange can be either single age or joint age?

2. "To use a completely guaranteed rider, not dependent on index returns:
$100k after 6 years at age 77= $12k per year"
What is a "completely guaranteed rider"?

Think of an FIA this way. You get somewhere in between 0% and the Cap in gain. The 0% scenario has never happened every year in a row, much less 2 or 3 years in a row.

The FIA illustration shows a Worst/Middle/Best rolling 10y scenario for the past 20 years. This is what really helps to put the potential returns into perspective for each product. Seeing over the past 20 years, the worst 10y return, best 10y return, and the middle 10y return.


1. You could 1035 a jointly owned MYGA into a single owned SPIA. Or you could choose to keep both owners of the MYGA as joint owners on the SPIA.

If the SPIA is jointly owned, you could have just 1 of those Owners as the Annuitant. Meaning income is based on just 1 of the Owners age. But Income also stops when the Annuitant dies.

The advantage to having the SPIA Jointly Owned with just 1 annuitant, is the younger spouse could sign and process any admin paperwork related to the SPIA. Such as if the older spouse was incapacitated somehow and was not able to. Instead of having to get legal power of attorney to gain admin control, the younger spouse would already have it.

2. A "completely guaranteed Rider" means the Rider Value increases based on a set guaranteed interest rate. Not based on Index Returns.

FIA Riders increase the Rider Value using 1 of 3 methods depending on the company/product chosen:

1. Value increases based on a set guaranteed interest rate.
Such as 12% per year guaranteed for 10 years max. (a guaranteed rider)

2. Value increases based on Index Returns.
The "expected value" is based on index returns.
The "guarantee" is just based on 0% index gains.

So you get somewhere in between the Guaranteed income with 0% index gains, and the expected income using the historical index return.

Sometimes they will give you 150% or some other multiple of index returns. But the increase in value is based on index gains.

3. Combo of the 2 methods.
Such as 3% guaranteed + index returns.
This gives a larger guaranteed value than #2, and still benefits from index gains.


To decide which is best for you, it really takes an agent running comparisons and showing them to you. It is also a matter of personal preference and time frame. Some people just want a guaranteed amount with zero variables involved. Others are ok with trusting the index gains.

In my opinion, the shorter the time frame often gives more reason to use a completely guaranteed rider. The historical models show 10y returns. If you have just 3 or 4 years until Income is started, there is a much higher risk of not hitting that historical 10y return vs. waiting 7-10 years. The 10y return has 0% years in it, but if you have a 0% return in a 3y period, you are not likely to hit the 10y historical return unless the following year just blows it out of the water. Shorter time frame, I recommend a guaranteed interest rate rider. The longer the time frame the more the index gain based rider makes sense. Hopefully that makes sense.

 

[Garya505]

This is why I'm confused. On immediateannuities.com is says this about 1035 exchanges:
The owner and insured, or annuitant, on the "new" contract must be the same as under the "old" contract.

How can a MYGA have an annuitant? There's no age or payment involved so that doesn't make any sense.

It's going to take a long time to figure this stuff out. Understanding stocks and bonds is child's play compared to annuities.