Single Premium Immediate Annuities
Dispelling The Myths
As seen California Broker article
April 2001 issue
As the head of a national
marketing organization which specializes in annuities, I spend a good
part of my day speaking with agents around the country. I have found
that when the topic is SPIA’s (Single Premium Immediate Annuities) the
level of understanding as to where the SPIA fits drops. I would
like to dispel certain myths regarding SPIA’s and hopefully bring this
product the respect it deserves. By having a good understanding of
how SPIA’s work and all the payout options available, agents can greatly
increase their sales while providing clients with the benefits they
didn’t realize were available to them. A major feature of the SPIA
is the exclusion ratio. Each payment from an SPIA is composed of
both principal and interest. The portion that represents the principal
is excluded from taxation and received tax free. If a $1000 per month
payment has an exclusion ratio of 65% then only $350 per month is
subject to tax. A 20% tax payer would pay just $70.00 per month in tax
and receive $930.00 per month after tax. This ratio goes to zero at the
point of life expectancy and the entire amount becomes subject to
tax. This on the surface appears to be a negative event, however, one
must realize that what has happened is that the principal has been all
used up and all future payments are all income and will continue for as
long as the annuitant lives. Any other investment in which principal was
exhausted would cease payments. The SPIA continues.
With the baby boomers starting
to reach retirement age, a fresh look at the SPIA is timely. The
SPIA comes in various forms. Following is a list of SPIA payout
options available from most companies.
Life Only - This will produce the
largest amount of income, but payments stop at death
Life with Period Certain - Payout is
made for life, but with some minimum number of years guaranteed (5-50
Life with Cash Refund - A money back
guarantee annuity. Payout is made for life, but if death occurs prior to
payments totaling at least the premium, then a lump sum cash payment is
made. For example, if $100,000 is invested and payments of $1,000
per month are made for 5 years (60 months) and the annuitant dies, the
beneficiaries will receive a lump sum of $40,000.
Life with an Installment Refund-
Another money back guarantee annuity.
Same as cash refund except the beneficiaries continue to receive the
monthly income until the full premium is paid out. In the above
example, there would be 40 more payments made monthly.
Joint and Survivor - This payout
option guarantees that payments will continue for the lives of both
annuitants. Period certain options can be added. This form
is used primarily with married couples to provide income as long as
either one is alive. Sometimes the benefit drops upon the death of
the first or the primary annuitant. This option produces a higher
Period Certain Only - This option
provides a benefit for a certain period of time, typically 3-50 years
with no life contingency involved.
COLA / CPI-U SPIA - This is a life
annuity with payments that increase or decrease by a set percentage each
year. Initial benefit can be substantially lower than non-COLA
The greatest concern of senior citizens is
While safety is certainly a concern, the actual answer is “outliving
their money”. This is an important concept for agents.
Their senior clients are worried about having enough money to
provide an income they can’t outlive. The agent has in his
arsenal a product which will guarantee to solve the problem
How many times is such a perfect fit overlooked?
If I die the insurance company keeps all the
The only time this is true is with “life only”
benefit. This payout ends upon death. It has the highest
payout factors and can be a planning tool when the payout is used to
fund life insurance. Upon death the annuity ends, but the life
insurance pays up.
I suggest to agents that
they offer their clients a money back guarantee SPIA.
Basically this is an SPIA with a refund option. If a client
invests $100,000 the client is guaranteed to receive at least
$100,000 back in payouts. Of course, If they live longer the
payout will be more.
Future guaranteed annuity payments will be
decimated by inflation.
Immediate Annuities can be purchased with an
annual COLA. Payments can be increased by 3-7% or more
A mutual fund will outperform an Immediate
Annuity as a source of retirement income.
A mutual fund might outperform the
Immediate Annuity. I have no bias against mutual funds. I do,
however, feel that clients looking for retirement income should
recognize and evaluate the risk/reward trade off. If a mutual
fund is used to provide income certain risks must be identified.
The following example is one I have used in agent and client
seminars. In looking at the SPIA - mutual fund comparison we
need to make certain assumptions. With the SPIA, a deposit of
$100,000 for a 72 year old male will be about $1,000 per month for
life. To be fair to the mutual fund, I will assume an annual return
of 10% each and every year except one year in which the fund will
drop by 10%. (Some feel this is too generous to the fund.)
Basically with the SPIA the
client receives $1,000 per month for life. If we start with
$100,000 in the fund and withdraw $1,000 per month we would use
$12,000 in the first year. If we also lost 10% ($10,000) we
would find a balance of $78,000 at the at the end of year one.
The client has used 22% of his retirement savings in the first year.
Even though the fund will now earn 10% per year forever, each
withdrawal will further invade principal until it is all used up.
The SPIA also invades principal each month, but once the client’s
principal is exhausted (determined by life expectancy), the
insurance company will continue to make payments for the life of the
client, no matter how many years the client lives.
The issue is whether the
risk of running out of money in later years is a fair trade off to
the reward of perhaps higher payments in the future. I would
rather have deflated dollars than no dollars. I don’t think
most agents nor clients have looked at the risk/reward equation in
this way. Risk is fine as long as the client understands why
he is taking that risk and what reward he can expect for that risk.
If an SPDA is annuitized,
the company will waive surrender charges.
Before a client annuitizes
internally, a comparison should be made. I have seen many
situations where the client would be better off (i.e. getting a
higher payout) by surrendering the Deferred Annuity (actually a 1035
exchange to an Immediate Annuity) paying the surrender charge and
buying the SPIA from a more competitive company. If the charge is
3%, but another Immediate Annuity carrier’s rates are 7% better, it
pays to exchange. The clients only concern if he wants to annuitize,
is how much his payments will be. The existing Deferred Annuity
carrier will provide a quote and then we can shop the surrender
value amount to get a competing quote. If the internal
annuitization under the Deferred Annuity is better, the client will
accept that approach. If not, he can 1035 to another Immediate
Medicaid Immediate Annuity
In some situations, the purchase
of a restricted SPIA can help an individual to qualify sooner for
Medicaid assistance, and potentially pass on a greater estate to their
heirs at death. In effect, the assets placed in such an annuity
are no longer considered as assets that must be “spent down” prior to
Medicaid eligibility. Then at death any remaining payments are
paid to the beneficiary and may be shielded from Medicaid collection.
Split Annuity (Combo)
A very useful approach is the
Split Annuity. In this structure an SPIA is used to provide income
for a period of years, generally 5-10 years and a multiple year
guarantee is used to get back the original principal in the same number
of years. Many seniors have CD’s on which they withdraw the
interest each year. They want to leave the principal to their
heirs. A split annuity can greatly increase the income side and
still guarantee a return of principal at the end of the term. This
idea works so well because most of the income is received tax free based
on the exclusion ratio and the growth side is helped by the deferral.
Deferred Start Immediate
Sometimes clients want to start
a payment stream at a certain time in the future. An SPIA can be
purchased with a guaranteed payment stream that starts as far out as
perhaps 20 years. This can be a valuable planning tool where a 60
year old client may want $1,000 per month for life starting at his 65th
birthday. An SPIA can guarantee both the premium and benefit.
Life Insurance and LTC
More and more the SPIA is being
used to fund the premiums on life and LTC policies. Funds in an
SPDA can be exchanged to an SPIA and life insurance purchased to offset
taxes on the built up gains.
I suggest that all agents become
familiar with SPIA’s and their possible uses. The key element is
that all aspects carry the magic word “guarantee”. For
conservative clients with income needs, a guarantee may be exactly what
is desired. An income which can’t be outlived. By shopping
many carriers agents can get their clients the best deals available.
Affronti is president of FSD Financial Services, Inc. Jeff has been
in the insurance industry since 1996. FSD is a national annuity
marketing firm. Jeff can be reached at
(800)373-9697 or at