The Next Generation of Income Guarantee Riders: Part 1 - The Deferral Phase

Clients no longer need to move their assets to a variable annuity with a rider to guarantee lifetime withdrawal benefits, thanks to the RetireOne stand-alone living benefit (SALB) rider from Aria Retirement Solutions, which can be applied to a portfolio of mutual funds and ETFs.  Despite this enticing promise, however, the SALB may not offer as much downside protection as advisors and clients expect.

This is the first of a three-article series that will analyze the SALB. In this installment, I will focus on how the SALB works during the pre-retirement deferral phase.

Riders, such as the SALB, offer downside protection in the form of lifetime income, upside potential with step-ups based on the underlying portfolio performance, and minimal surrender penalties. Bob Veres recently wrote about RetireOne at Inside Information, examining fundamental questions about what these guarantees are designed to insure against and what role can they play in a retirement portfolio (link, requires subscription).

The RetireOne rider is backed by Transamerica, which also backs the relatively low-cost guaranteed lifetime withdrawal benefit (GLWB) rider available for Vanguard’s variable annuities.

In order to illustrate the most important lessons about RetireOne and comparable riders as they concern pre-retirement deferral, I simulated RetireOne’s hypothetical performance using historical data and compared it to comparable simulations for both unguaranteed mutual funds and a VA/GLWB. We’ll see some of those results, but first, let’s examine in a little more detail how exactly these products work.

General characteristics of both guarantee riders

Guarantee riders, which until recently were only available for deferred variable annuities, have become popular a retirement income tool. In contrast to single-premium immediate annuities (SPIAs), which provide lifetime income that is fixed in either nominal or inflation-adjusted terms, guarantee riders are designed to provide their purchasers with downside protection, upside potential, and the opportunity to have remaining assets returned.

These riders do so by guaranteeing an income for life at a fixed withdrawal percentage of the benefit base.  The benefit base is the hypothetical amount used to calculate the guaranteed withdrawals and rider fees; it initially equals the contracted assets, but it may be more than the contract value of remaining assets later on. As long as the client does not take out more than the guaranteed withdrawal amounts, guaranteed withdrawals never decrease (in nominal terms), even if the account balance falls to zero. In this regard, GLWBs are similar to SPIAs, though a GLWB contract can be terminated, with remaining assets returned. Additionally, if the contract value of the underlying account increases sufficiently after accounting for any withdrawals and fees, a step-up feature may kick in to provide permanently higher guaranteed withdrawals.

The SALB guarantee riders offer only nominal protections (as opposed to the inflation-adjusted or “real” guarantees). This is one basic drawback – though the monetary value of the benefit base is guaranteed not to shrink, inflation will indeed chip away dramatically at its real purchasing power. I explored the real vs. nominal guarantee issue last year in an article discussing the income phase of a GLWB rider for a variable annuity.

Both SALB and VA/GLWB owners, meanwhile, are exposed to the credit risk of their insurers, since the rider guarantees may not be protected by state guarantee associations. Vanguard works with two insurers to provide the guarantee rider, one of which is Transamerica, the same company that backs Aria’s RetireOne guarantee.

Table 1, below, summarizes the key features for each rider.

Table 1
Contrasting the Features


Vanguard's VA/GLWB

RetireOne's SALB

Maximum Allocation to Stocks



Underlying Annual Account Fee


Varies by investment choice. Low-cost index funds are available. Assumption used here: 0.2%

Annual Rider Fee


Relates to Percentage of Assets Held Outside the Fixed Core Category:
0 - 50%: 1%
50.1 - 60%:  1.15%
60.1 - 70%:  1.35%
70.1 - 80%:  1.75%

Rider Applies To

High-Watermark Benefit Base

Remaining Contract Value of Assets

Guaranteed Payout Rate for Singles

Depends on Age of First Withdrawal
59 - 64: 4.5%
65-69: 5%
70-79: 5.5%
80+: 6.5%

Depends on Age of First Withdrawal
and Current 10-Year Treasury Yield with an Age-Varying  Floor and Ceiling
A Few Examples:
60:  4 - 5.5%
65:  4 - 6%
70:  4.5 - 6.5%
80:  5.5 - 7.5%
Notes: Between floor and ceiling payout rates are rounded down and when interest rates increase, the remaining account value rather than benefit base is used to assess the possibility for a step up

Payout Rate Reduction for a Couple's Joint Guarantee

Reduce Payout by 0.5%

Reduce Payout by 0.5%

Tax Treatment

Variable annuity deferred taxation, treated as income

Typical tax treatment for mutual funds in taxable or tax deferred accounts

Differences between Vanguard’s GLWB and Aria’s RetireOne

In 2011, Vanguard made headlines by offering a GLWB rider that costs less than nearly all of its competitors. It has an annual fee of 0.95% of the total benefit base, on top of the 0.59% fees on the underlying assets held in the Vanguard variable annuity. Owners are allowed to choose among three variable-annuity asset allocations, which range from 40% to 70% stocks. Income may be deferred, but by purchasing the rider before income begins the user will protect the interim high-watermark for the total benefit base used to calculate the subsequent income guarantee.

The guaranteed payout rate is expressed as a percentage of the benefit base, and that rate depends on the age at which guaranteed withdrawals start. These payouts are shown in table 1, below; note, however, that for couples (joint lives) the payout rate is 0.5% less than what the table shows. Step-ups in guaranteed income take effect, on the yearly anniversaries of the policy, whenever the contract value of the remaining assets exceeds the past high watermark. (Though it should be noted that this is increasingly unlikely to happen in the years after retirement, as portfolio returns would need to be large enough to surpass both fees and income withdrawals to reach those new heights.)

The RetireOne guarantee, meanwhile, differs from the VA/GLWB in several important ways. First, of course, is the fact that an investor does not have to move his or her assets to a variable annuity in order to acquire the rider. The guarantee can be used with any portfolio that meets certain asset allocation criteria and draws from an approved list of mutual funds or ETFs from a variety of leading companies (a full prospectus can be found here). The underlying funds will each have their own fees.

One very important difference from most VA/GLWBs is RetireOne’s rider fees, which are charged on the remaining contract value of the assets, rather than the high-watermark total benefit base. When the value of remaining assets is significantly reduced, this method of calculation can mean substantial savings for owners. The cost of the rider depends on the asset allocation, with values between 1% and 1.75%.

RetireOne also allows for a stock allocation of up to 80%.