Morningstar - Q3 2023 - 60

Investors
Look: I have a paper on fixed index annuities
with a guaranteed lifetime withdrawal benefit
rider attached to it. [See " Annuities Under
the Microscope, " Page 42.] It's an investigative
report; we looked at real product data, and
then we built composites from that analysis.
Overall, we did find, as you'd expect with
insurance, that they can mitigate against portfolio
shortfalls. But there's a lot of different products
out there. Fixed index annuities-and all deferred
annuities-are not commoditylike products,
whereas income annuities are to an extent.
There are some that are much more competitive
than others. In some cases, we did see that
they can provide more income than a deferredincome
annuity bought at the same time-which
is an apples-to-apples comparison. But you
do have to use these products properly, and
that's a little bit easier said than done. There are
a lot of provisions in these contracts. There's
a benefit base that you can increase by delaying
the start of the guaranteed withdrawal.
However, a partial withdrawal during the deferral
period can negate a rollup, leading to a
lower guaranteed withdrawal benefit. You typically
need to wait seven to 10 years to get a
competitive stream of guaranteed withdrawals
from the product.
The problem of lapsing or surrendering the
contract is a concern. The flexibility of these types
of products can be a double-edged sword
for clients who may not understand that you really
shouldn't take your account balance in
most cases. You still have to be committed to
the annuity to realize the benefits.
Pfau: There's a huge variety in the marketplace,
and some are not at all priced competitively.
But the ones that are can even be competitive
with income annuities. In theory, an income
annuity-a single-premium immediate annuity or
a deferred-income annuity-should offer a
higher lifetime payout rate than a fixed index
annuity with a living benefit, because the fixed
index annuity with the living benefit provides the
extra features of liquidity and growth
potential. In practice, you see these anomalies
where a fixed index annuity with a living
benefit is offering the higher payout rate, and
it is because of this lapsation issue.
With a fixed index annuity, many people who are
paying for extra protections don't ever take
advantage of them. And if they're not distributing
the full allowed amount each year, it's less
likely that they'll ever deplete their underlying
asset base, and therefore it never is going
to trigger the settlement from the insurer to have
to pay for their lifetime income.
The lowest-fee product is not always
the best decision.
Spencer Look
Morningstar Q3 2023
60
Szapiro: Spencer, you did some research that's relevant
for advisors who are looking at rollovers. We're
increasingly seeing annuities in 401(k) plans. How do
these in-plan annuities compare to out-of-plan
annuities in terms of price and features?
Look: Both income annuities and deferred annuities
with guaranteed lifetime withdrawal benefits are
available in some retirement plans. They're
generally cheaper than retail annuities because
the cost to distribute the product is lower.
Consistent with a lot of the literature out there, we
found that income annuities tended to provide rich
benefits. In-plan fixed index annuities with
guaranteed lifetime withdrawal benefits, in our
Morningstar - Q3 2023

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