The deferred annuity guaranteed lifetime withdrawal benefit (GLWB) was invented by a variable annuity carrier in 2003. In June 2006 GLWBs were introduced into the fixed index annuity world and in a short time GLWBs were everywhere, included in a majority of annuity purchases. The reason is that the product has a good consumer story.
At its simplest, GLWB guarantees an annuity owner a specific level of withdrawals that are guaranteed to last as long as he lives—even if the cash value of the annuity goes to zero. Unlike a life immediate annuity, which also guarantees a lifetime income, the cash value of a GLWB annuity remains available to the annuity owner. Although the cash value may well be decreasing or even run out—which is the uncertainty the GLWB guards against—the annuity owner retains control.
GLWBs didn’t remain simple very long. To gain a competitive advantage, carriers guaranteed that the amount of the future guaranteed withdrawals would increase even if the cash account value did not. These “roll-up rates” were initially a modest 4 to 5 percent, but a roll-up war resulted in guaranteed compounded annual increases of 7 to 8 percent (in one case 12 percent, non-compounded). This all works for the carrier if the cash value of an account also does okay; however, if it doesn’t, an annuity owner could wind up with the carrier guaranteeing lifetime withdrawals of 10 percent or more on the actual cash account value, which did happen in a few cases and was feared would happen in others.
From the Carrier Side
The carriers’ hope is that an annuity does not run out of money and require them to make GLWB payments out of their own pockets; the way this doesn’t happen is if an annuity owner dies, earns a sufficient return, doesn’t use the benefit and/or the carrier charges a large enough fee to help offset the cost.
If a group of 65-year-olds withdrew 5 percent a year from their annuities and averaged even a 3 percent annual return, the money would last until age 96—almost all of the annuity owners would be dead before their annuities were depleted. In these cases, carriers have spent very little if any money out of their pockets to cover the lifetime guarantee.
Let’s say a carrier guaranteed a group of annuity owners that they could withdraw the equivalent of 7 percent of the cash value at age 65 (reflecting a guaranteed roll-up rate). If the annuity owners continue to earn 3 percent, the money runs out at age 84. Based on life expectancy, half of the group would be dead, but the others would still be alive with zero cash values. Thus, the carrier would have to continue to pay for the lifetime income.
But wait, if the carrier has charged fees over the years, half of the people who paid the GLWB fee died before the protection was needed. In addition, some of the annuity owners paid a fee for a few years and then decided not to use the benefit or cashed in the annuity. Thus, all of these fees, along with the fees paid by the people who are receiving lifetime income, are designed to offset the out-of-pocket expense of the carrier.
It is even better for the carrier if a annuity owner earns a high return year after year. For example, if the annuity earns 5.7 percent instead of 3 percent, the money once again lasts until age 96 and the odds are that the carrier won’t have to pay. The carriers were counting on decent returns over the long haul and priced the risk of offering the GLWB accordingly, but then came 2008 and its aftermath.
The 2008 market crash caused the cash value of variable annuities to drop, but not the income value of the GLWB guarantees. This caused annuity carriers great concern that annuity owners would turn on their “payout faucet” at the worst possible time—when account values were depressed—which led carriers to back down benefits on new policies. A few rash carriers even eliminated the benefit. Even though at least one study has found that annuity owners didn’t start taking benefits at the worst possible time, this has not resulted in variable annuity carriers rushing to restore benefits (Ruark Consulting, LLC, 2012 Variable Annuity Policyholder Behavior Studies).
While the crash did not cause fixed annuities to lose value, the interest rate climate of recent years has made building value more difficult, which has impacted GLWB design. Previously I said if an annuity owner withdrew 7 percent of the annuity cash value beginning at age 65 and earned 5.7 percent, the money would last until age 96 or, at 3 percent, the money would last until age 84. However, the money would also last until age 96 if an annuity owner cuts the payout from 7 to 5 percent and earns 3 percent.
One reaction to the low interest rate environment was to cut payouts or roll-up rates or roll-up accumulation periods so there would be less of a difference between cash value and GLWB promises. Another reaction was to increase fees from an average of 0.4 percent in 2008 to 0.9 percent in 2012. One innovation was to introduce a stacking method which essentially shifts part of the roll-up rate risk onto the annuity owner.
A roll-up method is “either-or”: The higher of either the account value produced by actual returns or the roll-up rate is used to compute the payout. A stacking method adds a guaranteed percent to the actual return earned and is lower than a roll-up rate, thus it lowers the risk of the carrier needing to pay out of pocket—yet the final guaranteed payout may well be higher.
Carriers reacted and, in some cases, overreacted to the gloomy realities of recent years and took back some of the benefits. However, the attitude in 2013 has become more positive and creative.
One index annuity has reintroduced a benefit to the market (originally offered on the retired Sun Life SunDex annuity) that allows the owner who doesn’t take the maximum payout in a year to save the difference for future use. A few carriers have introduced an enhanced death benefit feature paying the higher of the value generated by the stacking/roll-up rate or cash account accumulated value. Recent increases in bond yields have resulted in some carriers raising their roll-up rates or increasing the number of years they may work to increase future guaranteed income. If the outlook for rising bond yields continues, we should expect to see more carriers enhancing GLWB benefits.
In many respects the GLWB is the perfect product at the perfect time because it gives retiring and soon-to-retire boomers a guaranteed lifetime income and control of their asset. Although the guaranteed increases may be less than they were in the “go-go” 2006-2007 years, they are still competitive with other income choices. In addition, if bond yields continue to improve, the benefits offered will also be enhanced.
A decade after they were introduced, GLWBs continue to be a good consumer story.
provides research and consulting services to insurance companies and financial firms in a variety of annuity areas. He also serves as director of research for the National Association for Fixed Annuities and as a research fellow for Webster University. In 1994 he wrote a book to help banks market investment and insurance solutions to their small business clients. In 1996 he produced the first independent hypothetical return monthly publication comparing all index annuities on the market, and in 1997 created the first comprehensive report of index annuity sales, products and trends, "Advantage Index Product Sales & Market Report" (quarterly). His insights on the annuity and retirement income world have appeared in hundreds of publications. In 2006 the National Association of Insurance Commissioners asked him to address their annual meeting and teach regulators the realities of index annuities. He was invited back in 2009 to talk to the NAIC about the effects of aging on senior decision-making. He is a frequent speaker at industry functions. Prior to forming Advantage Compendium, Marrion was president and owner of an NASD broker/dealer with offices in nine states. Previous to that he was vice president of a life insurance company and vice president of an NYSE investment banking firm. He has a BBA from the University of Iowa, an MBA from the University of Missouri, and a doctorate from Webster University. Marrion can be reached at Advantage Compendium, Telephone: 314-255-6531. Email: email@example.com.