A recent ruling from the Federal Department of Labor now holds broker-dealers and life insurance companies to the same fiduciary standards practiced in the financial industry. Annuity advisors are now required to disclose the commissions that they receive from selling products. This new fiduciary rule, outlined here, is requiring many institutions that deal in settlements and annuities to change their business model. Enter the fee-based variable annuity – which allows individuals to sell annuity payments in a slightly different way.
This increased regulation as a result of the Federal Department of Labor may lead to a resurgence in fee-based variable annuities. But what exactly are they? In this article we explore the difference between annuities and fixed-based annuities, and highlight some changes in store for the insurance industry in 2017.
What Are Annuities?
Before explaining what a fee-based annuity is, one must first understand what an annuity is. Annuities function like a reverse life insurance policy. In a life insurance policy, the policyholder pays small monthly payments that their family receives as a large lump sum after their passing. In an annuity the opposite happens: the policyholder gives money up front to an insurance company. The insurance company then pays the policyholder in periodic fixed payments until they die. Keep in mind you always have the option to sell your annuity for cash.
Annuities are insurance products. They act as a method of saving one’s money; essentially letting you protect it from yourself. By paying an initial lump sum to a company, and having non-taxed money incoming to you in small, fixed payments you are able to budget out your finances and have enough for retirement. Because annuities are insurance products there can be some tax advantages to the returns. When you sell annuity payments, they can be used as a way to buffer one’s income stream in retirement if an individual has no money saved up. Advances in medicine are causing individuals to live longer and longer, especially the Baby Boomer generation. Annuities provide a great hedge against outliving one’s own retirement savings while having one’s taxes deferred.
What Are Fee-Based Annuities?
Also referred to as I shares, fee-based annuities are a key part of a retirement portfolio. Fee-based annuities are simpler versions of traditional annuities. They contain no living benefits, complicated guarantees, or upfront loan and surrender charges. What is left is the main selling point of a traditional annuity: the ability to defer taxes.
The money you invest in an annuity grows tax-deferred until you eventually start to withdraw your funds. You are able to lock in a fixed monthly income without having to worry about financial market conditions.
The newly revived fee-based variable annuities offer a multitude of benefits over traditional annuities and variable annuities. Fee-based annuities offer shorter surrender periods, lower overall fees, and fewer penalties. Clients appreciate the fact that they are not locked into their annuity for a long time.
The new fiduciary rule requires businesses to disclose their commission rates to individual insurance holders that want to sell annuity payments. Insurance News Net reported that sales of variable annuities dipped 22% in the first half of the year. Contrariwise, fee-based annuities are making a comeback due to the recent Department of Labor ruling. The DoL created the fiduciary rule in order to operate with the client’s best interest in mind.
They may have been looked down upon by brokers and dealers a few years ago, as of 2011 the market stands at $1 billion. It is likely to increase as fee based annuities give new options for financial advisors, while also allowing consumers different ways to sell.