FIA Terms Tighten Despite Strong Sales

By Cyril Tuohy

Sales of fixed index annuities (FIAs) exploded in the third quarter, but insurance experts and analysts are noting a trend: FIAs are neither as cheap nor generous as they used to be.

To find out, you have to read the fine print buried deep in the annuity contract. It’s the kind of reading that only a high-priced insurance lawyer would love, or that a court of law would bother with in the course of its civic duties.

Alternatively, you can ask advisors like Robert Klein, founder and president of the Retirement Income Center in Newport Beach, Calif., who tracks these products and their pricing models about as closely as anyone in the country.

Sales of FIAs increased 22 percent quarter over quarter, with sales of $14.3 billion. That brings the year-to-date total to $38.4 billion.

But among highly-rated carriers that specialize in deferred FIAs, Klein sees lots of small changes taking place. They include tinkering with a fraction of a percentage here and there, as well as adjustments to take into account updated Internal Revenue Service mortality tables.

For example, in 2011, one of the income riders offered by an annuity carrier had a roll-up rate of 8 percent simple interest, which was subsequently trimmed to 7 percent and was reduced this year to 6 percent.

Another income rider had a roll-up rate of 8 percent compound interest in 2011, which has since been cut to 6.75 percent.

“I’m also seeing activity with roll-up rate terms,” Klein said in an interview with InsuranceNewsNet this week. “One income rider had a term of the earlier of age 85 or 15 years, which has since been reduced to the earlier of age 85 or 10 years.”

“Another potential variable that carriers can adjust is lifetime income payout percentages on the back end,” he said. “While most carriers have chosen not to tinker with these percentages, one income rider reduced the single- and joint-life five-year breakpoint percentages by 0.5 percent to 1 percent in the last couple of years.”

To the untrained eye, tinkering with the numbers and percentages used to calculate income payouts may seem like a lot of financial subterfuge. To experts like Klein, it’s just annuity companies raising rates and trimming benefits.

Why are annuity companies looking to scrimp on their benefits, which is tantamount to raising prices?

Some of the changes were made in response to a drop in interest rates and some of the more recent changes are due to updated mortality tables issued recently by the IRS.

The tables show people are living longer so annuity carriers need to adjust their products to be able to continue paying on the annuity’s promise. In some cases, that means an annuitant can’t outlive his or her annuity.

“They are offering payouts for riders attached to an annuity and people are living longer so they have to price out the rider to be profitable,” said Ron Sussman, CEO of CPI Companies, a life insurance brokerage in Voorhees, N.J. “With people living longer, the annuity carriers have to price for that.”

Sussman blames annuity carriers for not doing a better job of hedging their positions.

Many annuities had interest rate assumptions that were much higher than they are now so companies are paying out at a higher rate than companies’ bond investments are bringing. That means companies have to raise prices.

“They should have hedged that risk,” Sussman said in an interview with InsuranceNewsNet.

Annuity companies searching for advantages are reducing premium bonuses on some products, which results in a decrease in an FIA’s accumulation value and income account value used to calculate income payout.

“One product has reduced its premium bonus from 7 percent to 6 percent,” Klein said. “Another product no longer uses the premium bonus in its calculation of the income account value, resulting in a reduced income payout.”

In another case, an annuity carrier has chopped the value of its premium bonus that applies to multiple-year premiums by assessing an “ongoing supplemental income rider charge,” for annuitants who want the ability to receive the premium bonus on premiums added after year one, Klein also said.

Income rider charges have gone up as well, to 0.95 percent of the income base from a range of 0.65 percent to 0.75 percent in 2011, he said. Those changes don’t affect the income payout.

“The increased rider charge results in a decrease in the accumulation value and associated death benefit,” Klein said.

But annuity companies aren’t finished. Another method used by some companies is to have the income rider charge apply for the first 10 years of the contract, Klein said.

Annuitants looking to extend the application of the roll-up rate for another 10 years face a new rider charge “declared in year 11 with a maximum charge of double the original income rider charge percentage,” he said.

“Once again, while the increased rider charge will have no effect on the income payout, it will reduce the accumulation value and death benefit,” Klein said.

No wonder consumers find annuities complicated.

Sussman said he’s also heard from annuity wholesalers and index annuity wholesalers that benefits are going to be even stingier.

“Some annuities guarantee income for life and to do that you need to know the present and future value and duration,” Sussman said.

“When mortality rates improve and people live longer, you are going to need more money to fund that benefit and that means you cut back on the benefit riders.”

During a third-quarter earnings call earlier this month, John Matovina, president and CEO of American Equity Investment Holding Co., warned of “impending changes to our lifetime income benefit riders” despite what appears will be a record year of FIA sales in 2015.

Klein said the recent changes to FIAs have made the products less attractive compared with deferred income annuities (DIAs). In any case, he advises a side-by-side comparison of FIAs with income riders and DIAs to see which solution best meets a need.

“While it still retains its primary advantage of a flexible income start date, the value of FIAs’ secondary benefit of a built-in accumulation value/death benefit has been reduced as a result of increased income rider charges and reduced premium bonuses where applicable,” he said.

InsuranceNewsNet Senior Writer Cyril Tuohy has covered the financial services industry for more than 15 years. Cyril may be reached at [email protected].

Cyril Tuohy is a writer based in Pennsylvania. He has covered the financial services industry for more than 15 years. He can be reached at [email protected].