Deferred income annuities, or DIAs, are one of the two types of deferred fixed income annuities sold by life insurance companies, the other being fixed index annuities, or FIAs, with income riders. DIAs are the simpler of the two products to understand and are often the most suitable choice in many situations.
A DIA is an annuity from which a periodic payout begins at least 12 months after the date of purchase in exchange for a lump sum or series of periodic premiums. The payout can be for a term certain or lifetime, depending upon the terms of the annuity contract.
Optimize Income Payment for Desired Start Date with Smallest Investment
Assuming that deferred sustainable lifetime income is your objective, you should always optimize your periodic income payment, using the smallest premium, or investment amount, to receive the largest payout beginning when you will need your income whenever possible. Equally important, you should only work with highly-rated life insurance companies that specialize in fixed income annuities.
Optimization of income needs to be driven by your targeted income start date and projected ongoing retirement income needs. Although most DIAs have a fixed income start date, some do offer flexibility, allowing income to begin within a specified number of years before or after their contractual start date. Multiple, or laddered, DIAs with different income start dates can also provide you with income start date flexibility.
Balance Income Optimization with Death Benefit Guarantees
Income optimization needs to be balanced with death benefit guarantees. There are two types, both of them optional: pre-income payout and post-income payout. A maximum periodic income payment will always be generated when there are no pre- or post-payout death benefit guarantees. Likewise, pre- and post-income payout options will result in reduced payments when they’re added to a DIA contract.
If you purchase a DIA at age 50 with lifetime income beginning at age 65 with no pre- or post-payout death benefit guarantees and you die at 64, the life insurance company will retain 100% of your investment plus all earnings to date. There will be no payout to your beneficiaries. If you have absolutely no heirs or charities to which you want to leave assets or income, this may not be important to you.
Pre-Income Payout Death Benefit
If there are potential beneficiaries, you should always include a pre-payout death benefit as part of your DIA contract. This is also known as a “return of premium” feature due to the fact that the amount of the death benefit will equal the amount of premiums paid.
While your beneficiaries won’t receive any earnings, they will at least receive the amount that you invested in your annuity contract in the event that you die before receiving any income payments. Your income payment will generally be slightly smaller if your contract includes a return of premium feature.
Post-Income Payout Death Benefit
Assuming that you survive to your income start date, your periodic income payment will begin and will continue until the end of your life or your life and your beneficiary’s life if you have a joint and survivor annuity. This will generally be the case for married couples.
Whether you have a single- or joint-life annuity, you can include an optional post-income payout death benefit guarantee that will ensure that you and your beneficiaries will receive a minimum amount of income from your contract. This is typically accomplished with a term certain of five to thirty years.
Similar to a pre-income payout death benefit, inclusion of a post-income payout death benefit will reduce the periodic payout amount that you will receive. The amount of the reduction is usually relatively small when you compare the total minimum guaranteed payout with a post-income payout guarantee to one without.
I recently analyzed and compared DIA illustrations for a married client that included a return of premium feature. One illustration also included a 10-year certain post-income payout and the other was for 20-years certain. The following are the annual and guaranteed minimum joint-life payouts beginning 13 years from purchase assuming an investment of $300,000:
|Guaranteed Minimum Payments||$344,570||$653,860|
Given the fact that my clients have two pre-college age children and the annual income with the 20-year certain payout of $32,693 is only $1,764 less than the 10-year certain payout amount of $34,457 and the guaranteed minimum payments of the 20-year payout of $653,860 are $309,290 greater than the payouts of $344,570 with the 10-year certain payout, the 20-year certain payout was an obvious choice.
In summary, when evaluating deferred income annuities, while optimization of income payouts is the primary goal, this needs to be balanced with optional pre- and post-income payout death benefit guarantees. This will ensure a maximum payout for the annuitants as well as for potential beneficiaries.
Robert Klein, CPA, PFS, CFP®, RICP®, CLTC® is the founder and president of Retirement Income Center in Newport Beach, California. Bob is also the sole proprietor of Robert Klein, CPA. Bob applies his unique background, experience, expertise, and specialization in tax-sensitive retirement income planning strategies to optimize the longevity of his clients’ after-tax retirement income and assets. He does this as an independent financial advisor using customized holistic planning solutions based on each client’s needs and personality.