As a follow up to last week’s article about Hartford offering buybacks on some of its annuity contracts as part of its portfolio cleansing, I thought I’d point you to a WSJournal piece in today’s paper. It may yet be premature to take annuity buyback offers!
An annuity owners in the article is in a position that speaks directly to the problem ( And to the very reason people own annuities in the first place)
Pam put $200,000 into a Transamerica annuity in 2000. Poor fund choices on her part led to losses, and over-generous guarantees by Transamerica led the company to be in a spot guaranteeing her generous payouts.
Her ,account value is just $82,000 after investment losses and her own withdrawals, but the lifetime income base is 390,000, entitling her to an annuitized payout of $23,490 per year.
Transamerica would love to get that lifetime payout liability off its books, especially as there’s only $82,000 of real cash balance to offset the payouts.
To close the account, they offered Pam a lump sum of $313,200. But the question is, is it a good deal?
Most likely, Pam can’t replace the $23,500 per year with $313,200. An immediate annuity for a woman in Washington pays just $19,250/ year, less than her annuity guarantee.
Until Transamerica- and Hartford and the other carriers trying to get out of their commitments- at least match the benefits they owe with open market choices available today, investors like Pam should hang tight and wait it out.
The Journal sometimes makes it hard to view old articles by link, so I’ll just quote it below:
Thousands of consumers who paid for lifetime-income guarantees when they purchased the retirement products known as variable annuities are finding themselves in an odd spot: Life insurers are trying to buy back the guarantees.
In early November, Hartford Financial Services Group Inc. HIG -0.28% became the second major insurer to announce a plan to ask some customers to trade in their guarantees, on the heels of a similar offer, just completed, by the Transamerica unit of Aegon AGN.AE +0.23% NV. Some other companies are expected to follow. Meanwhile, the U.S. unit of AXA SA CS.FR +0.24% is wrapping up an offer to buy back certain death-benefit features sold with its variable annuities.
Variable annuities offer a tax-advantaged way to invest in stock and bond funds. The guarantees, sold for an extra fee, promise steady income for the buyer’s lifetime, even if the fund accounts become depleted.
For years, variable annuities and their guarantees were maligned by many financial advisers because of the fees; the charges can top 3.5% a year of the invested amount. And why pay for a guarantee to protect against a stock-market decline, the naysayers said, when stocks over time inexorably march upward?
But some financial advisers were fans, and their enthusiasm helped make 2007 a banner year for variable annuities, with $184 billion in sales—just before financial markets began sliding with the bursting of the real-estate bubble. Industry executives say the vast majority of those purchases included lifetime-income guarantees, which insurers were then aggressively marketing in what had become a product-feature arms race.
The 2008-09 global meltdown of financial markets demonstrated the value of the guarantees to their owners—and the financial danger to the insurance companies. While most insurers run hedging programs to mitigate those risks, as markets slid, many insurers had to set up bigger reserves for the guarantees, which hurt earnings. They also raised capital totaling billions of dollars, which diluted shareholders’ stakes, to show regulators they could make good on their commitments to consumers.
Hartford’s need for additional capital prompted it to take government aid, since repaid.
Insurers’ stocks continue to be depressed by the exposure they face from the guarantees.
Dodging a Bullet
In announcing their plan, Hartford executives said consumers would be offered a boost to the amount of money in their fund accounts in exchange for canceling the income guarantee.
Hartford’s costs would rise in the short term, but the goal is eliminating long-term exposure that hinges on uncertainties such as stock-market performance and customers’ longevity.
The offers might appeal to some people with pressing cash needs. But many owners are like Pam Tufts, 64 years old, a college administrator in Seattle, who says she bought her variable annuity and its income guarantee from Transamerica in 2000.
She was newly widowed, and the guarantee appealed to her because she didn’t have an old-fashioned pension plan to augment Social Security and other savings. She was concerned about future market drops that could wipe out investment gains and even her principal, she says.
As it turned out, the big tech-stock swoon happened soon after she put about $200,000 into large-cap U.S. stock funds within the annuity. She could take comfort that Transamerica was on the hook to provide for her financial future, even if her stock funds never rebounded.
As of Oct. 1 of this year, Ms. Tufts’ fund balance was still well below her initial investment, at approximately $82,000, depressed both by poor market returns and withdrawals totaling about $30,000 she has made since 2008. She says she aims in a few years to begin collecting an annual amount equal to approximately 6% of a guaranteed “base” amount that recently stood at about $390,000—or $23,490 a year at that level.
Doing the Math
The guarantees are complicated and varied. Under the one bought by Ms. Tufts, in broad terms, her minimum lifetime annual income is tied to a base amount that started out as her original investment. The base was guaranteed to grow at least 6% a year (more if her funds gained more than that) until she began withdrawing money.
Transamerica offered to buy out the contract for 80% of the guaranteed-base value at the time of the offer, or $313,203, according to Ms. Tufts. While the amount was certainly large, she says it took only a few minutes of conversation with her financial adviser, David Moskovitz of the RBC Wealth Management division of RBC Capital Markets LLC, “to come to the conclusion it didn’t make sense for me to take that cash and run, unless I didn’t expect to live very long.” She is in good health, she adds.
Mr. Moskovitz says: “Bottom line, if we took the buyout, I would have to invest the $313,000 buyout in something that would pay an approximate 7.5% in perpetual income to match the guaranteed annual amount of $23,490. In today’s interest-rate world, that is impossible without taking substantial credit or market risk.”
Some advisers estimate that at most about one in five holders accepted Transamerica’s offers, based on their experience with clients. A Transamerica spokeswoman says: “We’re unable to disclose offer and acceptance information.”
As Ms. Tufts concluded, the Transamerica-type offers can make sense to people with ill health who aren’t worried about outliving their savings, other advisers agree. But many buyers of the guarantees have been people in their 50s and 60s seeking the security of a lifetime income stream, and they are comfortable with a highly rated insurance company bearing the risk.
“There is no question that other companies are watching these offers and considering their own offer,” says Scott Stolz, who heads an insurance unit at brokerage firm Raymond James. He says some people’s circumstances can make the offer worth accepting. But in general, he says, insurers “are likely to make an offer that is favorable to them,” rather than the consumer.