Last month, we explored the recent trend of variable annuity (VA) insurers deciding that they no longer want to be obligated to the "shadow" value guarantees that are offered through their products' guaranteed living benefit (GLB) and/or guaranteed death benefit (GDB) riders. While these riders were initially developed to equalize the sales of VAs (particularly during times of market volatility), they have now become a burden to the companies that underwrite them. Today three insurers have essentially proposed a cash buyout should their policyholders voluntarily surrender their GLB and/or GDB riders.
Before we commence our exploration of the potential problems this presents, we should discuss early VA rider product development. When these riders emerged in 1996, regulators were quick to step in, and establish replacement guidelines to avoid the potential for annuity purchasers giving up a perfectly good in-force annuity for a newer one that may be…well, not as good as their in-force annuity. But why on earth wouldn't these clients want to exchange their in-force annuities for something that is "new and improved?"
The exchange for a "new and improved" VA may never be scrutinized when the market is on the uptick. After all, I never heard anyone complain about any VA when their cash values are on the rise. However, intense scrutiny typically accompanies a VA exchange when the purchaser has experienced losses due to market conditions.
A suitability issue
Assume a variable annuity has a cash surrender value of $100,000. Let us further assume that the shadow value of the GLB rider is also $100,000. In this scenario, there really isn't tremendous cause for concern in the event of an exchange. The annuity purchaser won't be foregoing any benefit by cashing out his VA in exchange for another; he came in with 100Gs; he leaves with 100Gs.
However, if the annuity purchaser has $100,000 of cash value, but then loses half of it when the dot-com bubble bursts, we have an entirely different situation. Now the cash value of the annuity is half of the GLB's shadow value. If the client were to exchange their annuity at this point, as opposed to taking advantage of his GLB's benefits, we have a suitability issue on our hands.
