A Closer Look at Income
Second in a two-part series on accumulation and income strategies
Last issue, we explored the value of fixed indexed annuities as accumulation vehicles. Here we’ll look at income riders, which according to LIMRA are now included in over two-thirds of indexed annuity sales.*
A client couple, call them Ralph and Alice, are in your office talking about retirement. Ralph is 60 and a mid-level executive in a private transportation company. He would like to retire from the job next year and do some part-time consulting. Alice doesn’t bring home a paycheck, but she volunteers extensively and intends to continue doing so. Ultimately, Ralph and Alice plan to travel the country in their new motor home, sightseeing and visiting their two grown children.
In addition to modest savings and some investments, Ralph has several 401(k) plan balances. He wants a stream of income that will enable him to delay taking Social Security benefits until he reaches normal retirement age, which in this case is 66 (and two months). Ralph also wants to make sure he can cover his mortgage, motor home loan and other obligations while he works part-time as a consultant. Longer term, he wants to make sure he and Alice can live comfortably as they pursue their travel dreams. The couple also wants to leave a legacy for their children.
One Size Doesn’t Fit All
So, what can we learn from this story? Our topic is fixed indexed annuity income riders, but my objective isn’t to show how a specific rider can be used to meet a discrete client need. Rather, it’s to demonstrate that typical clients may present an amalgam of needs – and that in planning for those needs you should consider the full range of rider designs available in the market today.
Essentially, Ralph and Alice have given you three different scenarios: one in which income is needed early; one where income is needed later, with time for accumulation; and one that combines income with a legacy. While it’s certainly possible to solve all three with a single rider, utilizing the features of different rider designs may put our couple in a better position to ride happily into the sunset. Of course, you should account for the impact of rider charges, annuity withdrawals and other factors when recommending any income solution.
Situation 1: Early Income
Lifetime withdrawals from income riders can begin as early as the first contract year. But early income presents a twofold challenge. For starters, it leaves less time for growth in the rider’s income (or benefit) base. And, depending on the client’s age at issue (60, in Ralph’s case), lower payout factors may significantly reduce the lifetime withdrawal amount.
Look for features that address these potential drawbacks. For example, an income base bonus, applied at issue, can immediately increase the value of the income base. Some riders also offer an early income bonus that can help offset lower payout factors.
Make sure your clients understand that a rider’s income base is used only to calculate benefits. Unlike the accumulated value in an annuity contract, it has no cash value and it can’t be withdrawn in a lump sum.
Scenario 2: Income Later
Here’s where the real power of the income rider comes into play, right? A longer accumulation phase to promote buildup in the income base, combined with higher age-determined payout factors, should result in higher lifetime income withdrawal amounts.
While this is generally true, the maximum income opportunity often depends on the rider design. Illustrate several riders and look for “sweet spots” – circumstances under which one rider may outperform another. You may be surprised at the result.
Considering Ralph’s second need – income 7-10 years after retirement – you might recommend a rider that offers a participating feature. Participating riders take interest credits earned from the base contract and apply them to the rider’s income base. The guaranteed lifetime withdrawal amount is generally lower, but a longer accumulation phase may provide the opportunity to increase it.
Some participating riders apply any interest credits to the income base before withdrawals begin. Others allow the potential for annual increases in the lifetime withdrawal amount as long as the accumulation value in the base contract remains above zero. As always, your client’s situation and needs should dictate your recommendation.
You should also take into account Required Minimum Distributions, or RMDs. These are required by the Internal Revenue Service from tax-qualified retirement savings vehicles beginning at age 70½. RMDs may exceed the rider’s lifetime income withdrawal amount, potentially exposing your client to withdrawal charges and market value adjustments (if applicable) on the excess. Look for “RMD-friendly” riders that allow lifetime income withdrawals up to the full RMD amount without penalty.
Scenario 3: Income Plus Legacy
In our hypothetical scenario, Ralph and Alice include a legacy for their children in their retirement income plan. There are a number of ways to achieve this objective – and a fixed indexed annuity may be only a part of the solution.
However, an indexed annuity – with or without an income rider – is an excellent way to create a legacy. As we discussed last month, indexed products combine accumulation potential with protection from loss due to stock market downturns. And, like most annuities, they typically permit the full accumulation value, less any withdrawals and charges in the current contract year, to be paid to beneficiaries upon the death of the owner/annuitant. Make sure to recommend a product with this feature when a legacy is an important client objective.
Income riders with a death benefit feature may be a suitable solution for clients like Ralph who want both lifetime income and a potential legacy for heirs. Depending on the configuration, these riders may provide for any remaining income base amount to be paid out to beneficiaries upon the death of the owner/annuitant, either in a lump sum or over a period of time. This is a core feature of multi-benefit riders that offer lifetime income withdrawals along with terminal illness, confinement or other benefits.
Matching the Product to the Need
Make sure to understand your client’s unique situation before recommending an income solution.
- Is income needed now, or later?
- For early income, look for features that will increase lifetime withdrawals.
- Consider participating riders when there’s time to accumulate.
- Account for the impact of RMDs.
Rod Mims is SVP National Sales Manager at Athene. He is a results driven business leader with 25 years of sales and sales leadership experience at several financial service organizations, with broad distribution experience including Independent Marketing Organizations, bank, wirehouse and independent broker/dealers.