When employees retire or change jobs, they have the option of moving money out of their 401(k)s. Only about 5 percent of these funds wind up in annuities.
With their steady, guaranteed income stream, annuities can play an important role in a retiree’s financial plan. Yet they’ve always been a tough sell because their fees and sales commissions are so stiff.
“The industry has killed itself with its annuity loads -- both the sales commissions and the ongoing fees,” notes Geoff Bobroff, a Rhode Islandbased consultant to the financial services industry. Annual fees typically approach 200 basis points, and sales commissions run between 5 and 5.5 percent. And there are no break points in annuity commissions and fees: The investor pays the same percentage on a $5,000 investment as on a $500,000 one.
Nevertheless, a number of money managers and insurers have begun to market updated annuity products to plan sponsors, both for working investors building their nest eggs and for retirees drawing on their retirement savings. “With defined benefit plans closing down each year, the ability of the average participant to depend on a steady stream of income has been reduced dramatically,” says Fred Conley, president of Genworth Financial’s Institutional Retirement Group. “What’s more, look at how defined contribution plans shift risk to the individual’s shoulders -- both the market risk and longevity risk.”
In Conley’s view, there couldn’t be a more propitious moment to be selling annuities.
In April 2005, Genworth, the former financial services subsidiary of General Electric Co., brought out a group variable annuity known as ClearCourse whose payout fluctuates with the performance of the underlying investments. That’s standard procedure. For a price, however, investors can opt to have a guaranteed quotient of income in addition to the incremental return from the investment gains. Investors pay about 50 basis points a year for investment management and an average 85 basis points for the income guarantee.
As of late December two plan sponsors, with a combined total of about 20,000 participants and assets of roughly $700 million, had signed up for the product.
“This is specifically designed as an investment option for a saver’s accumulation phase,” notes Genworth’s Conley. “It’s tailored for 401(k)s with institutional pricing. It’s good for retiring baby boomers as well as people moving into the peak accumulation years.”
Minneapolis-based Hueler Cos. offers a similar annuity, called Income Solutions. This product enables plan sponsors to offer participants an automated, Web-based comparison among several annuity providers. Hueler has long been the standard data source for stable-value funds. It introduced its IRA annuity comparative tool in 2004. Eight insurers offer their institutionally priced individual annuities on the Hueler platform: AIG Life Insurance Co.; John Hancock Life Insurance Co.; Hartford Life Insurance Co.; Metropolitan Life Insurance Co.; Mutual of Omaha Insurance Co.; Principal Life Insurance Co.; Protective Life Insurance Co.; and Prudential Insurance Co. of America. The Hueler product is offered by Hewitt Associates and CitiStreet, two of the industry’s biggest recordkeepers.
Hewitt has 93 plan sponsor clients, with a total of 1.7 million employees, that have chosen to offer the Hueler product. Says Stacy Schaus, who heads Hewitt’s personal finance practice, “These institutional products are offering payouts that are somewhere between 3 and 9 percent higher than retail annuities.”
In December 2003, John Hancock, the Boston-based insurer owned by Canada’s Manulife Financial Corp., began selling a variable annuity with another wrinkle: a guaranteed minimum withdrawal benefit. In the accumulation phase, before an investor starts to extract money, the annuity increases every three years to a new level of guarantee based on how the underlying investments have fared.
For people over age 65, the Hancock product is a lifetime annuity with a definite payout period of 20 years. If the investor reaches 65 and chooses to postpone drawing down the annuity, he or she receives a 5 percent bonus for each year of delay within the first ten years of retired life. If the investor dies prematurely, the payments go to his or her heirs.
This product is not cheap, however: The annual fee is 290 basis points, and the sales commission ranges from 120 to 650 basis points. Hancock officials decline to comment on the pricing. Says David Longfritz, senior vice president for John Hancock Annuities, “The product has clients do what they’re supposed to do: invest in a well-diversified portfolio and not take out more than 5 percent, while still keeping a safety net with a guaranteed minimum payment.”
In September 2005, Principal began offering plan sponsors fixed annuities, also known as income annuities, that are issued directly to individual investors. Usually, insurers sell income annuities on a group basis to a 401(k) plan. Principal will continue to do that, as well.
The special twist with Principal’s product: It gives employers the benefits of group purchasing power without the trailing fiduciary liabilities. To buy the product, a plan participant actually takes a distribution, as if he or she were about to buy a rollover IRA. It is administered alongside the 401(k) plan during the employee’s working life, and the employee can gradually shift assets into it.
In the past, says Chris Mayer, Principal’s vice president for institutional annuities, “many employers had been reluctant to offer annuities in their 401(k)s because of the implied responsibility after the employee’s retirement.” Principal’s product, Voluntary Rollover Income, is now offered by about 100 plan sponsors, including IBM Corp. “As life spans increase, many individuals face the real possibility of outliving their assets once they stop working,” notes Kathleen Roin, director of retirement benefits at IBM. Still, she adds, “it’s too early to gauge the response from our employees.”
Selling an annuity in a low-interest-rate environment like today’s is an especially tough task because retirees lock in an interest rate when they open an annuity. “Annuitization in a low-income environment means that you need a much larger sum to start,” says Tony Proctor, whose fee-based financial advisory firm, Proctor Financial, in Wellesley, Massachusetts, advises on $120 million in assets. “There couldn’t be a worse time to annuitize.”
On the other hand, interest rates have been creeping up, and any products that might reduce the potential liabilities of plan sponsors look good. That strongly suggests that sales will continue to rise.
