Overview
For many people planning their retirement, the focus is not on maximizing growth but on securing a steady income stream that lasts a lifetime. A fixed indexed annuity with a lifetime income rider offers this kind of financial security. Widely available through insurance companies and financial advisors, these annuities are designed for retirees who prioritize stability, providing a guaranteed payment for life.
What exactly is a Fixed Indexed Annuity with a Lifetime Income Rider?
A fixed indexed annuity (FIA) is a type of insurance product that offers steady income while protecting against market downturns, with the option to link account value growth to a market index like the S&P 500.
By adding a lifetime income rider, retirees can turn the annuity into a source of guaranteed lifetime income. This feature ensures that even if the account value is depleted, income payments will continue as long as the policyholder lives. Note that this type of rider can have different names such as Guaranteed Minimum Withdrawal Benefit (GMWB) or Guaranteed Lifetime Withdrawal Benefit (GLWB), but they’re all the same!
Growing Market
Fixed indexed annuities (FIAs) have grown significantly in popularity since their introduction in the mid-1990s, as they combine steady income with low risk. In 2023, total U.S. annuity sales reached a record $385 billion, a 23% increase from the previous year. Fixed annuities, a major driver of this surge, accounted for $286.2 billion of these sales.
Within this category, FIAs have gained particular traction, with 2023 sales totaling $95.6 billion, up 20% from the prior year. The demand for FIAs reflects a growing trend among retirees who want both income security and moderate growth potential.
How It Works: Income Base and Account Values
Fixed indexed annuities with lifetime income riders are designed with two main components, each playing a distinct role in providing a stable, lifelong income.
1. Income Base:
- The income base is a notional value that grows at a guaranteed rate during the deferral period. This base is not accessible as cash, but serves as a foundation for calculating lifetime income payments once withdrawals begin.
- When income payments are triggered, the income base determines the amount of guaranteed income the annuity will provide, ensuring stable payments for life, regardless of market performance.
- Even if the actual account value is exhausted, payments based on the income base will continue, protecting the policyholder from outliving their resources.
2. Account Value:
- The account value represents the real cash value of the annuity and can grow based on either a fixed rate or index-linked performance, depending on the options chosen.
- Over time, this cash value decreases due to withdrawals, fees, and any additional charges for riders. As payments are made, the account value may eventually reach zero.
- However, even if the account value is depleted, the guaranteed payments continue based on the income base, securing lifetime income.
This structure provides revenue to the finance institution and income for the annuity owner, while prioritizing stable income over growth. This allows retirees to rely on consistent payments without concern for market fluctuations or account depletion.
Why People Choose This Product: Security Over Growth
Fixed indexed annuities with income riders appeal to retirees who want to ensure they will always have income, no matter how long they live. Here’s why this product appeals to those who prioritize stability over growth:
- Lifetime Security: For many, the most attractive feature of this product is knowing that payments will continue for life, even if other assets are exhausted.
- Market Protection: Unlike stock investments, this annuity’s account value won’t decline due to market downturns, providing peace of mind.
- Profitable in Older Age: If the annuity owner lives longer than average, the annuity will continue to pay out, ultimately providing more in income than if the original amount was invested through typical savings. The finance institution is making a bet that the annuity owner will decease before a certain age.
- Tax-Deferred Growth: While growth isn’t the primary goal, any gains within the account grow tax-deferred, adding a modest boost to the account.
Cons
- Fees on the Entire Account Value: Lifetime income riders and management fees typically cost more than 1% of the total account value annually. These fees reduce the account’s growth over time and can accumulate, especially in a low-interest environment.
- Additional Fees for Risk Options: Choosing options to increase growth potential (like interest crediting linked to a market index) often comes with additional fees, adding complexity and reducing returns.
- Complex Terms and Documentation: Fixed indexed annuities come with extensive documentation, often spanning many pages. The terminology can be overwhelming, especially for those who are new to financial instruments, so it’s essential to fully understand these features before committing.
- Deferment Required for Optimal Payments: Although immediate payments are available, the annuity typically rewards waiting by increasing the monthly payment the longer it is deferred. This deferment option is beneficial for long-term income, but requires careful planning based on income requirements.
- Not for High Growth: This product is not ideal for those looking to maximize growth—it’s designed primarily for stable, predictable income rather than high returns.
Conclusion
In the financial services industry, fixed indexed annuities with lifetime income riders represent a fascinating approach to retirement planning. They cater to those who prioritize stability and predictable income over the volatility and rewards of growth-focused investments. Financial advisors play a key role in helping clients understand these products, and if they align with their financial goals.