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Senior Health Policy Advisor and Counsel
Last Updated 12/05/17
Issue: An annuity is an insurance contract sold by insurance companies. The insurer provides for either a single income payment or a series of income payments at regular intervals in exchange for a single premium (contribution) or multiple premiums (contributions) paid by the annuitant. Annuity contributions earn interest that can grow tax-deferred in the accumulation phase and can provide income for life in the income payment phase. These characteristics make annuities a popular choice among retirement income vehicles.
Overview: Insurers sell a variety of annuity products that differ in how they accumulate funds, get annuitized, and provide guarantees. Annuity contributions can be made as a one-time large lump sum payment or through a series of flexible contributions that can differ by amount and timing, depending on the insurance contract. Single contribution policies are useful when the annuitant has a large lump sum of money, such as with an inheritance or lump sum retirement plan payout. Alternatively, flexible contribution policies are most suitable to consumers who need to accumulate retirement funds over time.
Annuities can be classified as either immediate or deferred, depending on the timing of when their income payout phase begins. Immediate annuities are purchased with a one-time contribution and provide income payments to the annuitant within one year of purchasing the contract. Deferred annuities are purchased with either a single contribution or flexible contributions over time and provide income payments to the annuitant that begins at some future date. Interest earnings credited on deferred annuities accumulate tax deferred until withdrawn, making them a useful retirement planning tool.
Annuities can also be classified as either fixed, variable, or indexed, based on the provisions of the contract. Fixed annuity contracts guarantee a minimum credited interest. For immediate fixed annuity contracts, annuitants receive a fixed income stream based, in part, on the interest rate guarantee at the time of purchase. For fixed deferred annuity contracts, the insurer credits a fixed interest rate to contributions in the accumulation phase and pays a fixed income payment in the annuitization phase. Variable annuity contracts allow the policy owner to allocate contributions into various subaccounts of a separate account based upon the risk appetite of the annuitant. The contributions can be invested in stocks, bonds or other investments. Income payments in the annuitization phase can be fixed or fluctuate with the investment performance of the underlying subaccounts of the separate account. In contrast to fixed annuities, policyholders assume all of the investment risk with variable annuities because they are separate account products that are valued at market every day. Additionally, variable annuities are registered as securities with the Securities and Exchange Commission (SEC).
Recent years have seen the rise of indexed annuity contracts, which have both fixed and variable features. Under these policies, interest credits are linked to an external index of investments, such as bonds or the S&P 500, but also contain a minimum guaranteed interest rate. Other recent market additions include the expansion of various product guarantees. These guarantees can ensure the policyholder receives minimum death benefits, guaranteed living benefits, accumulation benefits, minimum credited interest rates, and income benefit or withdrawal benefit amounts.
Status: Life insurance and annuities are regulated by state insurance commissioners. The NAIC encourages states to adopt model laws and regulations designed to inform and protect insurance consumers. The NAIC Suitability in Annuity Transactions Model Regulation sets forth standards and procedures for recommendations to consumers that result in a transaction involving annuity products to ensure the insurance needs and financial objectives of consumers are appropriately met at the time of the transaction. The NAIC Annuity Disclosure Model Regulation establishes standards for the disclosure of certain information about annuity contracts to protect consumers and foster consumer education.
The Life Insurance Illustrations Issues (A) Working Group, which formed in 2016, came out of the need to take a broader look at how all products are explained to consumers. The working group is charged with exploring how the narrative summary required by Section 7B of the Life Insurance Illustrations Model Regulation (#582) and the policy summary required by Section 5A(2) of the Life Insurance Disclosure Model Regulation (#580) can be enhanced to promote consumer readability and understandability, including how they are designed, formatted and accessed by consumers. It is currently discussing draft proposals on how to amend Model #580 and Model #582 to incorporate a policy overview requirement that encourages (not mandates) the use of a template by providing a safe harbor if the template is used.
The NAIC's Life Actuarial (A) Task Force was formed to identify, investigate and develop solutions to actuarial problems in the life insurance industry. For 2017, the Task Force is charged with reviewing and recommending changes to Actuarial Guideline XLIII (AG43) and continuing the development of VM-22, Requirements for Principle-based Reserves for Non-Variable Annuities. The Task Force adopted modifications to the determination of the maximum valuation interest rate for single premium immediate annuities (SPIAs). It plans to continue developing the Valuation Manual, including the mortality experience data reporting format in VM-51, Experience Reporting Formats.
The VM-22 (A) Subgroup is working with the American Academy of Actuaries to develop a proposal for modernizing the standard valuation interest rate for all non-variable annuities other than SPIAs. It has also agreed to develop a frequently asked questions (FAQ) document for industry use.