A Considered response to the Living Benefit Variable Annuities Posts

Greg Heiple of Teeter Totter Principle (BalanceZone) fame emailed me this considered response to living benefit variable annuities. Right now with the world economy in turmoil the one rule must be to double check all retirement options and seek the best advice your can find. Greg provides food for thought and should help you think through the living benefit variable annuity as a retirement option.

No one knows how people are going to behave with these types of  guaranteed lifetime income contracts that are being offered through variable annuity company’s.

These guaranteed contracts are fairly new and they have never been tested. While the insurance companies run tests, make assumptions, and design hypothetical scenarios, to test how these contracts will perform, they are all educated guesses at best. No one can predict the future.

The questions that arise from the various variable annuity contracts that are offering guaranteed lifetime income are as follows:

1.      If the account value substantially falls in value, will investors and advisors stay with the contracts even with the guarantees intact?

2.      How much money will people take from their contracts?
3.      Do advisors and investors truly understand these very complicated guaranteed contracts? If not, what will be the cost of potential law suites?

4.      How do insurance companies know how to accurately charge for these various guarantees that have never been dealt with before?

*       If the ending balance falls too far from the original amount invested, history tells us that most people will be irrational and walk away. Even if the guaranteed income is still being offered, if the contract is sold as an investment, chances are people are going to deal with them as though they are investments.

*       Just how much monthly income will you need during retirement? If you are like most people, you will eventually have an event pop up that forces you to dip into your savings. It only takes one time to violate the terms of these contracts to substantially reduce or even eliminate these guarantees.

*       These contracts are intensely complicated. Given this fact, both advisors, and investors are vulnerable to misinterpretation of how these contracts are sold, purchased and used.

*       Finally, there is the pricing issue. How do the insurance companies price this risk? At the current time, no one has an accurate answer. To exacerbate this problem, every insurance company involved in these types of contracts are using the same abacus (the bell curve) to measure risk, and are making the same assumptions (average life expectancy) for 100% of these guaranteed life time income contracts.

What happens if we get a medical break through that doesn’t just increase average life expectancy? What if we get a break through that dramatically increases absolute life expectancy? What if we could choose to be 300? Admittedly, this is a pink elephant questions, but given the recent 56 trillion dollar Credit Default Swap mess, we should admit that this is a black swan reality. Stuff happens.

I truly do want to believe in these new guaranteed life time income contracts.

The industry is making great improvements and I am hopeful that they will eventually simplify and homogenize the way these contracts are designed, sold, and used. As it stands now, I think we are in the same place that the automotive industry was when they first came out with the fuel-efficient automobiles. Yes, the Pinto, Pacer, and Gremlin were on the cutting edge of their time, but we all remember the problems that came along with those cars.

Take Care,
Greg Heiple

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