Consider Goals When Helping DC Plan Sponsors Select Annuity Options

Understanding the types of annuities available to retirement plans and how they work is important for advisers to educate defined contribution (DC) retirement plan sponsors and help clients select the right option for their plans.

Immediate annuities begin paying out an income stream about six months after the time of purchase, whereas deferred annuities are scheduled to begin payments sometime in the future. A variable annuity is a type of annuity contract, the value of which can vary based on the performance of an underlying portfolio of mutual funds. Variable annuities differ from fixed annuities, which provide a specific and guaranteed return.

“There are several considerations when looking at any annuity, including the objective of the funds, the time horizon and the tax consequences,” says Jason Field, a financial adviser at Van Leeuwen & Company. “The purpose of most annuities is to provide an income stream for retirement. Some reasons someone would want to include an annuity as part of a retirement plan would be for the income, and potential lower volatility with some upside potential. The drawbacks of having an annuity in a retirement plan are liquidity issues due to the surrender period of the contracts and potentially high fees.” He adds that some individuals may lose tax benefits of annuities by purchasing them with tax-deferred dollars in a retirement plan.

Field says a variable and/or a fixed annuity could be offered in a retirement plan, and either an immediate or a deferred annuity would make sense. “Depending on the time horizon of the individual, both variable and fixed annuities could be included in retirement plans,” Field says. “Variable annuities would typically fall under the equity portion of the retirement portfolio, since most of the funds in a variable annuity are tied to one of the stock markets. Fixed annuities would likely take the place of bonds in a portfolio since they do not move up and down with the market. Both—variable and fixed—could be used alone or in conjunction with one another inside of an account.

“If someone is looking for these assets to grow, then a deferred annuity would be the way to go. This would give the annuity time to increase in value based on the type of annuity it is. If someone is only looking to create a pool of money for lifetime income, then an immediate annuity would be more suitable.”

Matt Gray, assistant vice president of Allianz Life Insurance Company of North America, says the lifetime income aspects of annuities should make them attractive to retirement plan sponsors and participants alike. “Getting some protection against risks within retirement and guaranteeing an ongoing stream of income is a critical, yet often overlooked, component of a solid retirement plan,” he says. “The SECURE [Setting Every Community Up for Retirement Enhancement] Act has presented a significant opportunity for investment consultants and plan advisers to provide much needed information, education and guidance to the plans and the participants they serve. Doing so will increase the value they bring to their clients and help them achieve the best possible outcomes.”

Like Field, Gray says he believes that both variable and fixed, and immediate and deferred annuities can work within a retirement plan,. “Both fixed and/or variable annuities could certainly be appropriate for retirement plans depending on a given plan’s objectives,” he says. “For example, fixed annuities may provide for more predictability in growth and projected future income, along with a potential for lower fees. However, they may not offer the upside potential that a variable annuity could offer, which might be an important consideration for a plan given the current low interest rate environment.

“In terms of deferred versus immediate, again, it would really depend on the objectives of the plan,” Gray continues. “Does a sponsor want participants to be able to accumulate a level of future guaranteed income while they are working or do they prefer that participants make that decision at the point of retirement? Do they want it to be a part of a default offering or will it be opt-in only? There is value in having both options available, but does a sponsor have the bandwidth or appetite to put all that in place? These considerations can affect whether a sponsor prioritizes one over the other.”