Chapter 12- Variable Annuitie 5-10 Questions Flashcards
Annuity (Non-Qualified retirement asset unless otherwise stated)
Life insurance product designed to provide supplemental income
Stream of income guarenteed for life
Make lump sum or deposits over time, then withdraw
Withdrawals are often taken in lump sum or randomly, though designed for life long
Right to vote on investment policy and for the investment advisor
Fixed annuity
Pay premiums to insurance company, invested in company’s general account
Investor gets guaranteed payout, typically monthly
Insurance license is required to sell (but not a securities license)
Investment is not a Security because the insurer is the one at risk
Fixed income and real estate
Purchasing power risk is taken by annuitant as they are locking away money for future that may not earn a high enough return
Variable annuity
Opportunity to keep pace with inflation
Investor takes on risk, product is a security
Sold with a prospectus, and by someone with insurance and securities licenses
Return based on actual performance
Invests in equities, debt, mutual funds (not money market funds)
Monthly payments may fluctuate
Account is invested in a separate account from insurer
If an annuitant dies
During accumulation: full value of product is given to beneficiary plus any accumulation
Guaranteed total return of amount invested at minimum
No penalty for early withdrawls if beneficiary under 59 1/2
Still pay ordinary income taxes on distributions
Similarities between mutual funds and variable annuities
The separate accounts of a variable annuity are regulated like a mutual fund
Variable universal life is also similar but should only be bought for insurance purposes just like a variable annuity
If variable annuity has portfolio built by insurance company, it falls under the Investment Company Act of 1940 as an open end Invest company
If portfolio management is passed to another party, it is a unit investment trust
Both have values calculated once a day, have a manager fee, and have voting rights on investment policy and adviser
Variable annuities have no maximum sales load
Major differences between a variable annuity and mutual fund
Earnings of an annuity accumulate tax deferred as distributions just add shares to the account
Cannot receive distribution as cash
Tax liability is deferred
10% penalty for early withdrawals
Variable annuities offer income guarantees depending on how the contract is set up
A variable annuity contract guarantees
A fixed mortality expense (or payout) and a fixed administrative expense that will not rise beyond a certain level
Single premium deferred annuity
Purchased with a lump sum, payment of benefits is delayed to a later date
Periodic payment deferred annuity
Investment over time
Payment at a later date
Immediate annuity
Pay a lump sum
Payout commences within 30 days of purchase
No such thing as an immediate deferred annuity
Two Phases of a variable annuity
Accumulation Phase: Growth
Annuity Phase: payout
Interest in the variable annuities is known as accumulation units or annuity units
Annuitization Phase : when the annuitant begins to take income
Annuity units are fixed upon annuitization beginning
Annuitization of an annuity contract
Option of receiving a monthly income determined by the actuarial department
Accumulation units value is used to calculate the number of annuity units
A assumed interest rate (AIR) is assigned to the funds and is a conservative projection of performance over estimated life (only important during annuity phase
Monthly payment is considered to be up if the separate account performs better than the AIR
When referring to annuities on a test, assume performance is in relation to
AIR, if the check is less then it was less than the return expected in the AIR calculation
Three payout options of an annuity
- Life income- Will generally give annuitant the largest payout because all payments stop upon the death of the annuitant
- Life with Certain period- annuitant is guaranteed payments, but if annuitant dies a beneficiary will receive remaining payments. Usually 10 or 20 year options.
- Joint Life with Last Survivor- Guarantees payment over remainder of two lives, usually husband and wife
Guaranteed Minimum Withdrawal Benefits (GMWBs)
Regular payments but only until the periodic payments equal the principal required to be paid back
Should be noted that lifetime is not guaranteed
Lifetime Withdrawal Benefit or Lifetime income
Annuitant will be unable to cash out of the account but will receive lifetime payments beyond the policy going to 0
Which annuity type will pay the least per month
Joint life with last survivor because it is covering two people
Taxation of Annuities
Usually after tax dollars used to fund the plan unless specified that it is employee sponsored
Investor cost basis is amount paid in, excess is taxed as ordinary income
Withdrawls before age 59 1/2 are subject to 10% tax
Each months payout is partly return of cost basis and earnings
Only earnings part is taxable
IRS requires all earnings are taken out first
ONLY ORDINARY INCOME NOT CAPITAL GAINS
Suitability of a variable annuity
Should only be used for supplemental income, not a preservation of capital
Should be funded with cash, not getting out of another annuity as this may be termed as abusive
Should not be used for a specific lump sum in the future
No reason to place in an IRA because earnings are tax deferred
Not a suitable investment for a client wary of the stock market
Should be considered after all other retirement contributions are maxed out
Variable life insurance
Protection for beneficiary in event of death
Invests premium into both company general account and separate account
Provides a floor minimum based on funds in the general account with separate account being upside
Never less than minimum guaranteed
Waiver of premium
Allows premium to be forgiven or waived in event an individual becomes totally disabled
If in a qualified plan, the contributions used to purchase the waiver are taxable
Tax deferred growth vehicles
Variable annuities
IRA… etc
Variable life annuity guarantees payments for
Life
Variable annuities must be registered with
The sec and the state insurance commission
