Liquidity features may be the apple of the annuity buyer’s eye – but relatively few policyholders actually use them, according to advisors.
“I think 99.9 percent of people have liquidity in their minds,” says Mark Lindsey, founder and producer with The Revolution FMO, LLC, Canoga Park, Calif. “However, most people never touch the money.”
In fact, Lindsey says, “probably less than 5 percent of all my clients have ever pulled any money out of their annuities.”
When clients do need to use their annuity’s 10 percent penalty-free withdrawal provision, they usually get their money within seven to 10 days, Lindsey points out. “But most don’t take the full amount. For most, 10 percent is more than they ever need.”
It Allows Access
Annuity liquidity refers to having access to a policy’s account value. The policyholder may have to pay a penalty for outing the money before the end of an annuity’s surrender charge period, but many annuities permit penalty-free withdrawals of up to 10 percent of account value a year. Many annuities also allow penalty-free withdrawals for specific reasons too, such as terminal illness, chronic illness and more.
(Note: Withdrawals made before age 59.5 may still remain subject to the Federal 10 percent penalty—on the gain in non-qualified annuities and on the entire account value in qualified annuities.)
Today’s challenging economy has heightened interest in liquidity. Many people hesitate to make long-term financial commitments without the back-door that liquidity provides. This has been widely acknowledged throughout the insurance sector as well as in the banking and general investment businesses.
Even the well-heeled private equity sector is remarking on this. For instance, SEI, Oaks, Pa., and Greenwich Associates, Stamford, Conn., reports that, in the wake of several years of underwhelming performance and lack of liquidity, many private equity fund managers are increasing transparency and decreasing fees to attract and retain skeptical investors.
In fact, a survey published this month by SEI and Greenwich found that half of equity fund managers named investor fear and reluctance as their biggest obstacle to raising capital – followed by performance (22 percent) and liquidity concerns (13 percent).
Meanwhile, institutional investors named liquidity terms and risk concerns as their biggest obstacles to allocating more to private equity, the SEI/Greenwich researchers say.
A few annuity carriers have recently debuted products that take new approaches to providing liquidity.
For instance, Liberty Life Assurance Company of Boston introduced the Freedom Series Builder Annuity – a deferred fixed annuity that has three different liquidity options that policyholders can purchase for an additional charge. In many fixed annuity products, the penalty-free liquidity features are baked into the product and the pricing, but not this one. The approach here lets the buyer pick and choose.
Another carrier, USAA Life, San Antonio, Texas, brought out the Guaranteed Retirement Income Plan –an income annuity that not only pays a lifetime income stream but that also allows the owner to withdraw up to 30 percent of the annuity’s present value after three years. The trigger for the access is a qualifying financial emergency, such as an uncovered medical expense.
Congress will be hearing about a new liquidity measure, too. Last month, Sen. Johnny Isakson (R-GA) introduced S.1656 – a bill that proposes to waive the pre-age 59.5 tax penalty on withdrawals from certain retirement accounts, presumably including qualified annuities, if the owner uses the money to make mortgage payments on the principal residence. It was sent to the Senate Committee on Finance. There is a companion bill in the House, as well—H.R. 3104.
Not As Big Of An Issue As It May Seem
R. Craig Byrd, president of Byrd Financial Group, Portland, Ore., works primarily with mid-market clients. His work has convinced him that liquidity is less of an issue for consumers than it might seem from reading about it.
First of all, he says, planners routinely structure client financial plans so there is enough money in cash to ensure liquidity.
As for annuities, Byrd says he has sold “a ton” of them and believes they are “a great product for this market if used correctly.” He likes to recommend annuities for people who can benefit from the tax deferral, lifetime income and estate planning features.
But if someone needs liquidity, he says his first thought is, “The person probably shouldn’t be taking out an annuity with that money.”
If liquidity is not an issue now, yet an older customer client know when they might need the money, Bryd says he might suggest laddering non-qualified annuities that have short-term surrender charges expiring in, say, 3, 5 or 6 years. That would enable the client to have surrender-charge-free access to the funds at regular intervals.
Alternatively, he sometimes offers a variable annuity designed for sale in a fee-based environment. These products have no surrender charges, he says, “So the client has 100 percent liquidity all the time.”
Two Liquidity Trends
Judith Alexander, director-sales and marketing at Beacon Research, Evanston, Ill., says she has noticed two liquidity trends as of late. One is that some consumers are afraid to make any long term commitment at all. “They would rather keep their money in a mattress than put it somewhere that keeps it locked up,” she says.
When that is the case, liquidity features in the policy can be one of the enticements that encourage them to go ahead and buy, Alexander continues.
She points to the return of premium (ROP) feature as an example. Forty percent of fixed annuity products in the Beacon database now include this liquidity feature, she says, adding that, “It’s very popular in annuities that are sold in banks.”
The ROP feature guarantees that the policy owner can get the money out of the annuity with no penalty, but the person may have to give up all the credited interest to do that. “Some of these products allow the policyholder to pull the money out at any time,” Alexander adds.
The second liquidity trend is that some annuity carriers are starting to make liquidity optional. Alexander points to the ROP feature as an example. This has traditionally been built into the contract but some carriers are starting to make it available for an extra fee.
Few Bailout Provisions
One liquidity feature that often shows up during periods when interest rates are expected to rise is the bailout provision or waiver. This allows annuity owners to take the money out of a fixed annuity without paying surrender charges, provided that prevailing interest rates have risen above a specified level.
“The appeal is that it can provide the annuity owner with a way to keep from getting stuck in a low-interest contract when interest rates are rising,” Alexander says.
Given that many financial experts are predicting interest rates will start rising sooner or later one might expect to see a burst of bailout features on the market. However, only 6 percent of the fixed annuities in the Beacon database currently include a bailout waiver, says Alexander.
“That’s surprising, but also understandable,” she continues. “These products are reserve-intensive. The carriers probably don’t want to buy more bonds at current rates to back the products, so they won’t be stuck when interest rates rise.” For that reason, most are not offering bailouts right now, she says.
Some other penalty-free waiver trends from the Beacon fixed annuity database include the following comparisons with waiver data that Beacon reported in 2007:
- Annuitization waivers are more frequent today (60 percent) than in 2007 (46 percent). These will waive surrender charges if the owner chooses to annuitize the contract.
- Nursing home waivers are somewhat more frequent—87 percent today versus 81 percent in 2007). “This is probably due to consumer demand,” Alexander says.
- Terminal illness waivers are slightly more common (59 percent) versus in 2007 (56 percent).
- Unemployment waivers are a bit less frequent—10 percent in 2007 versus 13 percent in 2007.