More financial advisors are turning to insurance products to boost fixed income for clients
- More financial advisors are using life insurance and annuities for fixed income.
- With a deferred income/longevity annuity, a client pays an upfront lump sum in exchange for monthly lifetime income at a future date.
- Whole-life cash value insurance can also be an option for fixed income, say advisors.
Economic and demographic shifts are making life insurance and annuities more attractive options for fixed income, financial advisors say.
"In a typical 60/40 portfolio, because bond returns are at a 50-year low, I'm seeing people moving funds from bonds to either life insurance or income annuities as a substitute," said Tom Hegna, an insurance industry consultant in Fountain Hills, Arizona.
As baby boomers enter retirement, Hegna is also observing a shift toward income annuities vs. traditional deferred annuities. In terms of product innovation, he noted:
- Deferred annuities are now adding withdrawal riders, which provide some liquidity flexibility (until all the money in the account is spent).
- Some life insurance policies and annuities have begun adding long-term care coverage riders, which may allow income to double or triple to pay for certain types of care.
Annuities: Deferred vs. fixed income
Another recent development is the deferred income/longevity annuity, for which a client pays an upfront lump sum in exchange for monthly lifetime income at a future date, said actuary Scott Witt, a New Berlin, Wisconsin-based fee-only insurance advisor who does not sell any products. A typical scenario would be a 65-year-old who wishes to set up payments beginning at age 85.
"These products are in the infant stage still," said Witt. "There are some out there, but the market is not deep.
"This product is quite effective at addressing the risk of living too long," he said. "It can help change the financial-planning exercise from one with an uncertain endpoint to one with a goal of making it to age 85, or whenever the longevity annuity kicks in."
In contrast are immediate fixed-income annuities, such as SPIA, single-premium immediate annuities, which provide fixed income to an individual or couple for their lifetimes or for a certain period of time. These can be used as supplemental income in times of shortfall or as a "bridge" for those who decide to retire before they claim Social Security or other retirement funds, said Mindy Cleaveland, certified financial planner with Modera Wealth Management in Westwood, New Jersey.
"This income bridge allows them to withdraw less from their investments early on and to maximize their future income," she said. "It is also possible to add features to the SPIA to ensure there is return of unused principle to a beneficiary or provide a cost-of-living adjustment annually."
Life insurance: Not tied to markets
Cash value insurance, which is permanent life insurance, can also be used for fixed income, said Brock Jolly, CFP, planner and partner with Veritas Financial in Vienna, Virginia. Whole life, variable life and universal life insurance are examples of cash value life insurance. He described the two basic types of whole-life cash value insurance:
- Premiums paid on a continuous basis. The cash value and death benefit grow at a certain percentage or higher as long as premiums are paid (versus term life where, when one stops paying, there is no accumulated cash.)
- "Limited pay": The insured pays premiums for a limited number of years, but the cash value and death benefit continue to grow after payments stop.
"Within the context of a financial plan, life insurance is an asset that's not tied to the market," Jolly said. "So when the market is doing well, draw income from there.
"When the market's not doing well, draw income from a guaranteed bucket of money which is the cash value of the policy," he added. "This allows your market assets to grow."
Jolly also said this income can be taken every month or when the policy holder needs to draw from it and in many cases is tax-free as long as the insurance policy is in force. The cash balance could eventually be used up.
Less known and less used in the life insurance arena are so-called life settlements, whereby a third party purchases all or part of a person's current life insurance policy with a lump-sum payment or in installments, with an amount based on the insured's life expectancy. The purchaser goes on to pay the premiums and in effect becomes the policy beneficiary. When the insured dies, the new owner will get a regular flow of the death benefits.
These types of settlements would be more relevant to those who don't need the policy anymore, don't want to pay the premiums, need cash or are in poor health, said New Jersey-based life insurance consultant Chuck Lampert, adding that someone in poor health will likely get a better offer, because the purchaser would likely get the payout sooner.
"In the past, some insurance companies were not fond of settlements because of the fear that seniors could be taken advantage of, but it is very strongly and uniformly regulated now by insurance departments across the country," he said.
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