Using an emerging set of insurance solutions known as contingent deferred annuities, financial advisors can now "wrap" their preferred portfolio allocations in a way that meaningfully complements their retirement clients' safe withdrawal strategies, according to a new white paper published by RetireOne.
Penned by Michelle Richter-Gordon, co-founder of Annuity Research & Consulting and executive director of the Institutional Retirement Income Council, the paper seeks to illustrate the effectiveness of an alternative retirement income strategy that empowers fee-based registered investment advisors to better protect client portfolios and provide guaranteed lifetime income solutions.
In basic terms, the paper examines how the contingent deferred annuity's unique structure — with its unbundling of lifetime income guarantees from underlying investments in a way that fits the RIA's fee-based compensation model — can protect a portion of client portfolios and enable advisors to keep their clients allocated to equities in retirement.
According to the research, this approach can materially increase average value of both income and account value relative to a more conservatively allocated portfolio. Specifically, the paper suggests, a more aggressive equity portfolio with 50% of assets covered by a CDA offers significantly better outcomes in terms of net economic benefit than an unprotected portfolio utilizing withdrawal patterns determined by an individual's required minimum distributions or the ubiquitous 4% withdrawal rule.
More Permanent Than Marriage
As Richter-Gordon writes, despite the significant potential value of traditional income annuities and strong advocacy for the products by some academic economists, Americans don't typically buy them.
"Many reasons are posited for why Americans choose not to annuitize, including cost, complexity, inflexibility and more," the paper suggests. "One less frequently posited potential explanation is that purchasing a life-only immediate annuity is a more permanent life decision than is the most mainstream decision we think of culturally as permanent — that is, marriage."
As Richter-Gordon explains, few people would enter marriage with the intention to later get a divorce, yet some 50% of American couples ultimately do end their marriages.
"This option to divorce is legally available to married couples, and this option has value to it whether it is exercised or not," Richter-Gordon says. "While the vast majority of annuitized annuities do have liquidity options, few if any allow full commutation, hence the argument that the purchase of an immediate annuity is a more permanent decision for the purchaser than is getting married."
Framed this way, the paper argues, it is "no puzzle at all" why immediate annuities are not more popular with purchasers.
The What and Why of Contingent Deferred Annuities
As Richter-Gordon explains, contingent deferred annuities are designed to break down the barriers to adoption of traditional income annuities. She writes that one key innovation is the unbundling of insurance protections from underlying investments.
"Unbundling allows the RIA to wrap any approved retail ETFs or mutual funds with which they and their client are comfortable — not merely a limited menu of insurance-dedicated investments — with a contractually separate option for lifetime income," the paper notes.
As Richter-Gordon points out, separating the income guarantee from the underlying investments creates a flexible structure that allows the assets to remain at the advisor's or client's preferred custodian. It further allows for the coverage to be canceled at any time without tax or financial penalties.
