Matt Carey is the co-founder and CEO of Blueprint Income and was formerly a Policy Advisor at the US Treasury Department focused on retirement policy.
While annuities are widely supported by academics and policymakers, they have also been slow to attract consumers and are not currently widely available in U.S. qualified retirement plans. Yet longevity annuities recently received a boost with the most important pension legislation since at least 2006, known as the SECURE Act. Accordingly, it’s a good time to take stock of prospects for the longevity annuity market.
Development of the U.S. Longevity Annuity Market
A longevity annuity (also known as longevity insurance or deferred income annuity) is an insurance product that pays retirees a permanent income lasting as long as the buyers live. Specifically, individuals use a portion of their pre- or post-tax savings to purchase a deferred income annuity that begins paying a monthly income beginning at least a year from purchase. The goal of this product is to convert retirement savings into guaranteed income for life.
New York Life is widely credited with creating the product category for the retail market in 2010. Yet a Treasury/IRS rule in 2014 was required to prompt the release of products from other major insurers to encourage retirees to buy the product using qualified funds with income starting after age 70.5. As of 2018, total longevity annuity sales had reached $2.3 billion, according to LIMRA, up from $0.2 billion in 2011.
The 2014 Treasury rule gave a boost to longevity annuities by allowing retirees to buy Qualified Longevity Annuity Contracts (QLACs) worth the lesser of $125,000 (the limit has since increased to $135,000), or 25% of total assets in a qualified plan; these assets are then exempted from requirements that retirees withdraw an annual set amount from their plans. Known as Required Minimum Distribution Rules (RMDs), these had forced retirees to withdraw a certain percentage of their assets from retirement accounts beginning at age 72 (it used to be age 70.5, but last month’s SECURE Act increased the age). The beneficial rule change allowed retirees to exempt the assets they used to buy the annuities from RMD payments.
Is the SECURE Act Opening the Sluice Gates?
Fast forward to end-2019 when the SECURE Act passed, including the inclusion of a ‘safe harbor’ for insurer selection. This responded to plan fiduciaries’ past concerns that they could be held responsible for an insurer’s solvency, if they selected an annuity provider. The SECURE Act addressed this issue by stipulating that if insurers are selected prudently, the plan fiduciary is held harmless from legal liability.
The SECURE Act also addresses another plan sponsor concern regarding benefit portability. Specifically, it permits plan participants who leave an employer or retire move their annuity to another plan or to an IRA without paying surrender charges.
What More Is Needed To Improve Longevity Annuity Adoption?
The SECURE Act represents clear progress in promoting longevity annuity adoption, but is it sufficient to open the dam’s sluice gates and turn a $2 billion market into a $20 or $200 billion market?
For longevity annuities to scale, this must happen inside qualified plans like 401(k)s, and I believe that a longevity annuity can often be the most sensible product for retirees alongside an equity portfolio. But several things must still be put in place, including:
- Designing clearer rules about how insurers can qualify for the safe harbor. The Dodd-Frank Act discouraged regulators and legislators from referencing credit ratings due to an inherent conflict of interest in the ratings process. Consequently, practitioners have difficulty identifying the conditions under which insurers can qualify for the safe harbor under the SECURE Act. It would be useful, for instance, to set a threshold involving asset levels, capital levels, product portfolio diversification, the number of states where the insurer is operating, and a few other easily verifiable parameters.
- Clarifying the rules about which kinds of annuities can be offered in retirement plans. Previously there were strict rules that annuities had to meet, if they were going to qualify for QLAC designation and receive the RMD exemption from the IRS. The same should apply here.
- Designating longevity annuities as Qualified Default Investment Alternatives (QDIAs). We know that defaults matter: auto-enrollment has enhanced 401(k) plan enrollment, and default investment plans like target date funds have attracted the lion’s share of new participant assets. If the goal is to enhance retirees’ lifetime income, there needs to be a default, which should be a QDIA. The ERISA Advisory Council has already taken up this topic, but there’s clearly more work to be done.
- Permitting microdeposits in these products. In 401(k) plans, participants establish an allocation across the menu of offered funds, and then their contributions flow into each of the selected funds every two weeks or month. However, few insurers accept funds this way, so some technological and reporting challenges must be overcome. My firm, Blueprint Income, recently partnered with Pacific Life to deliver just such a solution to the retail market.
To achieve the full promise of the SECURE Act, clearer rules for insurer and product selection are needed, longevity annuities should be added to the QDIA, and annuity products made easier to purchase over time. Though obstacles remain, the Act has enhanced the appeal of longevity income products in the retirement marketplace.
Views of our Guest Bloggers are theirs alone, and not of the Pension Research Council, the Wharton School, or the University of Pennsylvania.