GMIBs In Life Contracts? Worth A Look

In annuities, the death benefit design can range from simple to complex. The spectrum of designs might range from (death benefit equaling) account value to the larger of deposit and account value, to the larger of deposit and high water account value at various selected times, to the larger of deposit and annual percentage roll-ups (e.g., 7%) for a number of years. The number of options is as great as the number of creative actuaries.

All these designs need to be appropriately modified should withdrawals occur. In any event, when death occurs, the proceeds are taxable to the extent of gain in the contract, at the decedent's marginal income tax rate.

In contrast, the life insurance death benefit is most typically some specified amount, possibly adjusted upward for Internal Revenue Code Section 7702 compliance reasons. (The risk amounts are higher than those in annuities, and consequently so are the charges to cover the risk amounts.) However, upon death the proceeds are received income-tax free.

In the 1980s, when tax law was somewhat more favorable, using single premium life contracts for income purposes was incredibly popular.

One can't restore such distribution tax treatment. However, the use of GMIBs in variable life insurance plans would appear to address a key concern, which is what happens to the income stream in down markets. After all, that's where the discussion started, albeit for annuities. Further, the pre-distribution death benefit should be viewed as insuring the payment stream. That's because the benefits could be viewed or designed as a present value of the distribution stream.

Certain differences between life and annuity GMIBs do need to be reflected in the design. Most importantly, the costs of insurance are higher in the life contract designs. This may therefore impact certain variables such as the permitted annual increase in the GMIB benefit base and simply the amount of the GMIB charge. Creative ways of charging the cost of insurance can lessen the cost impact.

Prospects for GMIB annuity sales remain strong, and sales opportunities arising from the Pension Protection Act's favorable treatment of long term care riders promise to accelerate them further. Life sales with GMIB, and possibly with GMIB-LTC features, promise should result in strong growth on the life side as well.