TORONTO – Annuity and life insurance products figure large in retirement planning when the clients want or need guarantees.
Some people have distaste for insurance, allowed insurance expert Curtis V. Cloke in a speech here at the annual meeting of the Million Dollar Round Table. “But unless your client is willing to have a discussion about an insurance product, there will be no discussion about guarantees. That’s because income guarantees require insurance.”
In fact, he said, “you cannot talk about guarantees in finance unless you are talking about insurance products.” And many times, that means a discussion of annuities.
To that end, Cloke laid out some insurance-leveraged approaches he uses in his own retirement planning practice. He is president of Acuity Financial and chief executive officer of Thrive Income Distribution System, both in Burlington, Iowa.
One of the goals of insurance is to provide guarantees to people, he pointed out. This helps them achieve a feeling of confidence in their finances over their entire lives, he said.
Traditional asset allocation models used in planning do not address such goals, he noted. Those models structure plans around time (or a stage in a person’s life), he said.
By comparison, he said his “product glidepath model” factors in both time and client goals (such as legacy, performance, confidence over a lifetime, etc.). This model “leverages the power of insurance” to help client meet goals, he said.
The benefits to clients include tax savings, reduced fee drag and guarantees, he contended.
Annuities play a central role in the retirement plan design. As Cloke put it, the insurance products most used in retirement planning today are one of three types: annuity riders that provide guaranteed lifetime withdrawal benefits (GLWBs), single premium immediate annuities (SPIAs) and deferred income annuities (DIAs).
Where income annuities are concerned, he said, they have inherent and extensive benefits for clients. Tax deferral is one. In addition, when the client is funding the product with nonqualified money, “a portion of the annuity income is excluded from taxes.” That’s because the Internal Revenue Service considers a portion of every income payment to be a return of principal to the owner.
Alternatively, if the client funds the product with qualified money, income annuities can be set up to count as the client’s required minimum distribution (RMD) from the qualified account that is used to fund the policy. That reduces the amount the clients will need to withdraw from their remaining qualified assets to meet RMD requirements, Cloke said.
Income annuities help eliminate the “fee drag,” too, he said, referring to the fees that are assessed when retirement money is held in certain investment products. There is an administrative fee, he said, but the insurance company guarantees the rate of return, so “the onus of achieving that return and the extra return on top of it to cover their expenses and profit margins is on the company.”
Income annuities also offer inflation riders which, if elected, will help clients meet one of their common planning goals, which is inflation protection, Cloke said. In addition, the products have mortality credits, which essentially “provide an extra rate of return independent from market performance.”
Which to choose?
Advisors who are trying to develop a guaranteed retirement income plan for clients often get stuck on whether to choose an annuity with a GLWB or a DIA, Cloke said.
Based on his experience and his research, he said he has concluded that a strategy that incorporates a DIA can be more valuable than one based on a GLWB. His reason: “The DIA strategy has more opportunities for creating liquidity, leaving a legacy and getting tax advantages.”
As for retirement income withdrawal or payout strategy, he said he has been using what he calls the “divide and conquer” strategy. Here too, annuities play a major role.
“I divide the assets into those that will provide income in retirement and those that will accomplish other goals such as liquidity, growth and legacy,” he said.
“I cover the essential expenses my clients anticipate they will need in their retirement using annuities. I do not, however, restrict the income floor to exclusively essential expenses. If the clients feel their retirement would not be complete without certain expenditures like golf fees or yearly weeklong vacations at the beach, we try to cover those as well.”
He noted that this combines the attributes of the three most commonly used withdrawal strategies today. They are:
- Systematic withdrawal: This draws down assets from an investment portfolio using a withdrawal rate that is assumed to be safe.
- The bucket (or ladder) system. This entails dividing the assets into chunks measured by risk or time period with each bucket playing a different role in generating income.
- The retirement income floor method. This uses income annuities or other guaranteed insurance product to cover essential expenses but typically with no allowance for discretionary expenses.
Cloke discussed the pros and cons of other payout strategies but said he believes his approach “provides an extra level of guarantees” above and beyond what the other strategies can provide.
“You can’t have a football team without an offense and a defense,” Cloke said. “The assets walled off for funding income annuities are your defense. They protect you from the elements that would set you back on the road to retirement success. The offensive team is made of your remaining assets. They will propel you toward your goals and push you toward your own version of retirement victory.”
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