Unit 9: Annuities

Question 1

What are the 2 phases of an annuity?

Answer 1

•pay-in
•pay-out

*cannot be used for both phases at the same time
*once the contract is annuitized, no more contributions can be made

Question 2

What is the pay-in phase of an annuity?

Answer 2

•called the accumulation period
•principal & periodic deposits grow with credited interest
•interest grows tax deferred

Question 3

What is the pay-out phase of an annuity?

Answer 3

•distribution phase
•called the annuitization period
•contract generates an income stream from its accumulated value

Question 4

What can the owner generally do during the accumulation period?

Answer 4

•make additional premium payments or deposits
•take withdrawals from the accumulated value
•surrender the annuity for its cash value
•make other changes to the contract

Question 5

What happens during the annuitization period?

Answer 5

•money is converted into a series of regular income payments that can continue for life or for a stated period of time
•when the annuitization period starts, the accumulated value no longer belongs to the annuity owner
•no additional premium payments can be made
•no withdrawals can be taken
•the annuity cannot be surrendered
•the owner can’t change the contract

Question 6

Who are the 4 parties involved in an annuity contract

Answer 6

1. Contract owner
2. Annuitant
3. Beneficiary
4. Insurer

Question 7

Who is the contract owner?

Answer 7

The person or the couple who buy the annuity & has certain rights, such as:
•name or change the annuitant
•name or change the beneficiary
•choose the payout option
•add more money or take withdrawals
•surrender or terminate the agreement

Question 8

Who is the annuitant (insured)?

Answer 8

•similar to the insured in a life insurance policy
•chosen by the owner to receive the income payments during the annuitization period
•their life expectancy is used to determine the amount of the guaranteed payments
•must be an individual-a natural person
•CANNOT be a corporation or a trust
•does NOT have the power to make withdrawals, deposits, change the names of the parties to the agreement, or terminate the contract
•must also sign the annuity contract
•contract owner & annuitant are frequently the same person

Question 9

Who is the beneficiary of an annuity?

Answer 9

•has no voice in the control or management of the annuity
•only benefits upon the death of the contract owner
•can be a natural person or an entity like a trust or a corporation

Question 10

Who is the insurer of an annuity?

Answer 10

•the party who issues the annuity contract
•representing the insurer may be a local bank, a financial planner, a brokerage firm, or an agent/producer

Question 11

What is an immediate annuity/single premium immediate annuity (SPIA)?

Answer 11

•Structured to provide current income
•purchased with a single lump-sum premium
•provides income that may begin as soon as a month after purchase or may be delayed for up to 1 year
•funds accumulate on a tax-deferred basis
•when payments begin, the portion of each payment that is attributed to interest is subject to taxes-the rest is tax-free
•single premium immediate annuity (SPIA) pays a monthly income immediately

Question 12

What is a deferred annuity?

Answer 12

•Payout is a specific date in the future
•do not start an income stream immediately
•annuity owner chooses the premium amount & the frequency of premium payments
•accumulated funds may be withdrawn at any time, subject to a possible surrender charge
•annuity owner is NOT required to annuities the contract

Question 13

What are the premium payment options for deferred annuities?

Answer 13

•bought with single premiums (SPDA)
•bought with ongoing premium payments (periodic or flexible premium deferred annuities: PPDA or FPDA)
•has an accumulation period
•owner decides annuitization at a later time

Question 14

Withdrawals from annuities

Answer 14

•earnings/growth portion is taxed as ordinary income
•funds continue to be taxed at ordinary income tax rates until the account value is reduced to the original investment amount
•if a withdrawal is made prior to 59.5, there is an additional 10% penalty on the taxable earnings

Question 15

What are surrender charges?

Answer 15

•waiting period called the surrender period to help then annuitant avoid additional fees from the insurance company for early withdrawal
•surrender periods may be as short as 2 years up to 12 years or more
•if funds are withdrawn during that time, a surrender charge may apply
•surrender charges are stated in the contract; commonly start at 10%, declining each year

Question 16

What is the death benefit of a deferred annuity?

Answer 16

•does NOT provide a surviving family a life insurance policy
•accumulated contract value is paid to a selected beneficiary if the annuity owner dies during the accumulation period
•amount paid is the greater of:
-the accumulated value of the annuity
OR
-the total premiums paid to that point, minus any withdrawals

Question 17

What are the 2 annuitization payout options?

Answer 17

1. Life annuities-have a payment that is guaranteed to last for at least as long as the annuitant lives
2. Temporary annuities-do not ^^

Question 18

What is the life only option for annuity payout?

Answer 18

•sometimes called “straight life,” “pure life,” or “life-no refund”
•payments stop when the annuitant dies, regardless of when that occurs
•advantage=pays the highest monthly income amount because there are no other contingencies & only the annuitant’s life expectancy was considered to determine the amount of the monthly payout
•disadvantage=the annuitant may die before their life expectancy & the total payout they received was much less than the total amount paid into the contract

Question 19

What is the life with refund [certain] option for annuity payout?

Answer 19

•if the annuitant dies & the total payments received are less than the amount paid for the annuity, the difference is paid to the beneficiary either as a,
-lump sum, called a “cash refund”
OR
-continuation of payments in the same amount as was being paid to the annuitant, called an “installment refund”

Question 20

What is the life with period certain option for annuity payout?

Answer 20

•pays an income for as long as the annuitant lives
•annuitant selects a payment period (typically 5,10, or 20 years) and payments are guaranteed to be made for at least that number of years
•if the annuitant dies before the end of the selected period, payments continue to the beneficiary for the rest of the period certain
•no payments are made to the beneficiary if the annuitant lives past the period certain

Question 21

What is the joint-life-and-survivor option for annuity payout?

Answer 21

•insurer promises to make payments until the last survivor of 2 annuitants dies
•owner can choose for continued payments in the same amount or reduced amount for the survivor

Question 22

What is the joint life option for annuity payout?

Answer 22

•pays income until the death of the first of 2 or more annuitants

Question 23

What are some factors in determining a life annuity payment amount?

Answer 23

•annuitant’s age-age is used to determine life expectancy, which indicates how long payments will have to be made; the younger the annuitant, the lower the payment amount
•annuitant’s gender-life expectancy statistics show that as a group, women live longer than men; women generally receive lower payments than men of the same age
•payment guarantee-a refund option will lower the payment; with a period certain option, the longer the period, the lower the payment
•assumed interest rate-insurer assumes that it will earn some rate of interest on the funds used to buy the annuity; the lower the assumed interest rate, the lower the payment

Question 24

Fixed period & fixed amount are types of __________ annuities.

Answer 24

Temporary

Question 25

What are the 4 basic types of annuities?

Answer 25

1. Fixed
2. Variable
3. Equity-indexed
4. Market value adjusted

Question 26

What are fixed annuities?

Answer 26

•guaranteed against loss
•aside from surrender charges that may apply, the value of a fixed annuity will never be less than the amount paid into the contract
•supported by the insurer’s general account
—>investment risk is borne by the insurer
•assets in the general account are conservatively invested typically in debt securities & other fixed-rate investments that provide a steady return for many years
•during the accumulation period, accumulated values earn a current rate of interest that is competitive with prevailing rates on other interest-bearing investments
—>current rate is generally declared at the beginning of the year & guaranteed for the year
—>current rate may rise or fall from year to year, but it will never be less than a guaranteed minimum rate that is stated in the contract
•provide a level payment amount during the annuity period
•annuitants can count on getting a specified dollar amount of income on a regular basis
•can lose purchasing power during periods of inflation
—>over a number of years, the fixed benefit may become inadequate to live on

Question 27

What are variable annuities?

Answer 27

•have the potential to keep pace with inflation because they are supported by investments
—>have investment risk
•insurers not allowed to bear the risk
•assets that support variable annuities are kept in a separate account where the investment risk is borne by the annuity owner
—>the owner makes the various investment choices called “sub-accounts,” which resemble mutual funds
•accumulated values of variable annuities are expressed as “accumulation units,” similar to shares purchased in a mutual fund
—>the value of an accumulation unit is found by dividing the total value of the separate account by the number of existing accumulation units
•when the annuity period begins, the accumulation units are converted to “annuity units”
•from that point on, the number of annuity units stays the same throughout the annuity period
—>however, the value of the annuity unit varies with the value of the investments in the separate account

Question 28

What are equity-indexed annuities?

Answer 28

•a form of fixed annuity—>guarantees backed by the insurer’s general account
•type of tax-deferred annuity whose credited interest is linked to an equity index-typically the S&P 500
•guarantees a minimum interest rate, typically between 1% - 3%, if held to the end of the surrender term & protects against loss of principal
•returns may be higher than fixed annuities, but will not be as high as a variable annuity

Question 29

What are market value adjusted annuities?

Answer 29

•single premium deferred annuities
•interest rate for a fixed number of years
•early surrender
—>withdrawal penalty
—>interest penalty-maybe be higher or lower
•not a variable product-no securities license required

•also referred to as a “modified guaranteed annuity”
•fixed annuity with a market value adjustment feature
•offers the flexibility of various guarantee terms combined with the potential for higher interest rates
•guarantee terms range from shorter term to longer term & typically credit higher interest rates for longer-term commitments
•guaranteed fixed rate is declared for the length of each guarantee term
•guaranteed rate is valid only if the investment is held until maturity
•investments may be split amongst several guarantee terms to match various time horizons when funds may need to be accessed
•withdrawals made before maturity nor the guarantee term may be subject to a CDSC and/or a market value adjustment (MVA)
•typically, the length of the CDSC schedule matches the duration of the guarantee term

Question 30

What are the 4 uses of annuities?

Answer 30

•life income at retirement
•accumulating funds prior to retirement
•funding IRAs
•accumulating education funds

Question 31

Group annuities

Answer 31

•funded by employer contributions
•distributions determined by employer