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Equity-indexed annuities now offer fresh concepts and more variety.
Gary E. Adkins, MPA
Are you currently selling annuities? If you are, have you taken advantage of the equity-indexed annuity opportunities over the last five years? Although bond rates are lower and call option prices higher, the S&P 500 stock index is reasonably strong, and the industry is still creating aggressive indexed products for you to market, expanding on the indexes offered. These include, the Dow, the Russell 2000, the NASDAQ and various bond indexes such as corporate, high yield and convertible. Consider this: sales of equity-indexed annuity products exceeded $5 billion last year, which outperformed the previous year.
It used to be that insurance professionals could be confident with a 200-basis-point spread over certificates of deposit, with tax deferral as an added bonus. But this competitive edge no longer exists.
The appeal of annuities
The insurance industry was fortunate that in 1995 and 1996, equity-indexed annuity products began to pique the interest of both agents and clients. These revolutionary products follow the market by being linked to the Standard & Poor's 500 (recognized worldwide as the benchmark for U.S. stock-market performance), and giving the insurance industry a boost by being a new, marketable product and concept. Millions and millions of dollars are pouring into these indexed products each month, giving advisors an exciting story to tell clients and prospects.
Many policyholders who have reached their third, fourth and fifth policy years have benefited from significant investment growth due to the extraordinary performance of the S&P 500. If you track the history of the S&P, you'll find very few down years. What's more, equity-indexed annuities (EIAs) are classified as a fixed annuity, falling under the jurisdiction of the safety umbrella of various state guarantee funds in the event of a company insolvency (not stock market losses), and the "legal reserve" requirement. This requirement stipulates that insurance companies reserve dollar-for-dollar on annuity premiums.
Since equity-indexed annuities have been around for a few years already, agents generally have an understanding of the three major crediting methods used for EIAs: the high-water method, the annual reset or ratchet method and the point-to-point method.
The high-water method is simply looking back at the end of the contract term at each anniversary and crediting the growth based on the contract's starting index level.
The annual reset method,
also known as the ratchet method, is an ideal design if you or your client
foresee a volatile market with plenty of ups and downs. If the market is down
on your current contract anniversary, you get a new starting point and are
credited with the growth from the climb back up.
The point-to-point method offers good potential for growth if the market continues
to move upward. You get the difference between the point at which you started
and the point at which the contract ends. However, since you don't get credit
for what happens between the two points (beginning and end), if there's a
market correction at the end of the contract term, you could lose part of
your growth. The original deposit, however, remains unaffected. In order to
keep the participation rates attractive, many plan designs are using averaging
of monthly gains, applying an asset fee or spread, or placing a CAP on earnings,
still allowing for double-digit earnings potential.
Equity-indexed annuities can certainly be considered a competitive option for the saver or investor. Insurance carriers are still developing plan designs to make these products even more attractive to advisors and buyers.
The newer version of this plan type is sometimes referred to as a "multibucket" product. Buyers of this annuity are given the option of diversifying their money among two or more strategies, and are provided the ability to transfer additional percentages of cash to other strategies after a stated period of time - one to three years, for example.
The buyer of a multibucket annuity has a choice of indexing strategies like the S&P 500, Dow, and NASDAQ, high-yield bond indexes, corporate bond indexes, and convertible bond indexes. This concept gives the buyer a greater feeling of control through participation in the growth strategy selection process. It's important to note, however, that the policyowner's money actually goes into the insurance company's general account, and is then indexed to the performance of the various growth strategies.
Since the variable annuity market has significantly increased its share, this kind of product may be the answer to the fixed annuity reclaiming the annuity marketplace.
The trend in traditional products
Traditional annuity sales continue to remain strong. As of 1999, over $700 billion in assets was safely put away in tax-deferred annuities. This means that somebody is selling it and, what is more important, somebody is buying!
Some companies are reintroducing what were their best-selling annuity products before the equity-indexed annuity blitz.
Annuity products with high compensation schedules or large first-year bonuses, and products with longer rate guarantees or shorter surrender periods now seem to occupy the blast faxes and trade journal advertisements. Most traditional annuity products are built on the same chassis, offering like benefits and features. For example, systematic withdrawals of interest after 30 days, 10 percent penalty-free withdrawals after the first year, waiver of surrender penalties for access to all or part of the account value when confined to a hospital or nursing home and the option to annuitize after the policy have been in force for one year.
Only those features and benefits that are different attract and sell the product. Seek out and add to your annuity collection those few, highly rated carriers with unrivaled plan designs that can set you apart from the competition - especially products designed around a certain concept like a CD alternative, or an interest rate tiered plan that rewards the policyholder with a higher interest rate based on the growth of the account value and additional deposits. The multiyear guarantee plans have become strong in times of economic growth and also in periods of economic decline because they offer stability, no matter what the market conditions are.
Selling the concept
Look around: these plans are out there. Remember that the concept of tax-deferred annuities remains one of the best selling tools for insurance professionals.
Think about this, Mr. and Mrs. Prospect: with the current interest rates being offered on bank CDs, many savers are now in a position of having negative interest earnings.
For example, a certificate of deposit offering a 5 percent return is actually 3.25 percent after federal and state income taxes (assuming a 35 percent combined rate of taxation). Assuming a 4 percent annual inflation rate, net earnings would reflect a negative .75 percent outcome. Wouldn't a tax-deferred annuity make more sense?
Compounding? This is a feature that makes tax-deferred annuities so attractive. Here's how it works:
1. You receive interest
on your principal
2. You receive interest on your interest
3. You receive interest on your tax savings
It's important to consider what tax-deferred annuities have to offer in comparison to other savings vehicles. The tax advantage is a big plus, safety and stability are important (the legal reserve system requires that a large percentage of premiums be set aside as a reserve; in addition, the various state insurance departments supervise all aspects of insurance company operations). And of course, a competitive interest rate helps round out our comparison. Mr. and Mrs. Prospect, wouldn't you both agree that a better savings vehicle would be difficult to find? And, Mr. or Ms. Insurance Professional, wouldn't you also agree? My point is a simple one. If you have been successful at selling the concept of tax-deferred annuities, then I would encourage you to keep doing what you do best - and do more of it!
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