Pop quiz: What life insurance or annuity product has recently been alternatively classified by the states as a fixed annuity, variable annuity, financial guaranty insurance, and a derivative? If you answered “contingent annuity,” you’re one of a minority of advisors who has heard of them and understands state regulators’ confusion about how the products should be classified.
Contingent annuities, often portrayed as “group annuities,” are a standalone guaranteed lifetime withdrawal benefit (GLWB) contract that is offered to mutual fund investors. Under a contingent annuity, the investor pays a fee equal to a percentage of the account value. The contract covers only investments that meet the insurer’s criteria. At a set age, the investor may begin making “systematic withdrawals” equal to a particular percentage of account value.
The size of the withdrawals depends on the gender and age of the investor. In the event that the covered account’s value is exhausted, the contingent annuity will kick in and the investor will continue to receive payments in the same amount as the systematic withdrawals until he or she dies.
Contingent annuities were identified by the National Association of Insurance Commissioners (NAIC) as raising “a number of issues for regulators.” The product has been so problematic for regulators that NAIC’s Life and Health Actuarial Task Force formed a subgroup to study and prepare a report on the product.
Although the design and function of contingent annuities isn’t all that complex or shocking, there have been substantial abnormalities as contingent annuity filings have passed through the state regulatory processes used to vet insurance and annuity products. In some states, contingent annuities were disguised when they were submitted to state regulators and may have been approved without a full investigation.
Other states that more fully vetted the product determined that it was not an insurance or annuity product. In those states, whether insurance companies are allowed to sell contingent annuities is uncertain. Other states classified contingent annuities as “financial guarantee insurance” and forbade insurance carriers from selling the product.
Another state specifically found that contingent annuities are not annuities. “Annuity contract” generally is defined as “an agreement to make periodic payments for a period certain or over the life of the individual.” There is no “period certain” over which a contingent annuity will make payments since it may never begin to make payments in the first place.
Contingent annuities are even more puzzling when you consider that other states have reached the contradictory conclusions that the products are fixed annuities or variable annuities.
Due to the confusing and opposing state law classifications of contingent annuities, the NAIC has recommended that state insurance regulators thoroughly review whether they have received any contingent annuities filings and, if so, “to determine whether they have been properly classified under the applicable state laws and whether they in fact meet all of the requirements applicable to them.”
The NAIC will doubtless give further consideration to contingent annuities and help the states reach something approaching a uniform classification of the product.
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See also The Law Professor's blog at AdvisorFYI.