When the government announced it would include qualified longevity annuity contracts in 401(k) plans, the insurance industry rejoiced. Much has been written about how they answer a need for savers to focus on income rather than savings and investments. QLACs address the related concern of outliving your savings.
Yet, for all the initial excitement, QLACs have been slow to move out of the gate. Part of the problem arises from the unfortunate choice of name. By adopting the word “annuity” into its title, the QLAC instantly evokes negative connotations among a sizable portion of the market. Although a QLAC does, in many ways, function like an annuity, it is really a form of insurance. Rather than insuring against premature death, a QLAC insures against a belated death or, in other words, the unexpected longevity of one's life.
I guess there were other drawbacks to using the word “insurance” instead of “annuity.” The acronym would have been QLIC, which, if you say it out loud, doesn't sound too appetizing. We could have called it what it is—longevity insurance—but that acronym isn't any better. (Say “LI” out loud if you don't believe me.)
The advantage of referring to a QLAC as insurance deals with the perception of the associated payment. Insurance evokes the idea of a “premium.” An annuity makes one think of investments. When you think of an investment, you begin to make calculations on rates of return and alternative investment options.
For a QLAC, the alternative is obvious—don't buy a QLAC and grow your asset size through investing so you can then generate your own stream of investments. It turns out, when you do this analysis, you have a significantly better chance of generating the necessary income by investing yourself instead of buying a QLAC. It's like the difference between buying a large cap versus a small cap stock. You can calculate the probability of the return of each over a 20-year period and discover, in most cases, the large cap will be worth more (because the small cap has a good chance of going out of business).
Of course, the strain of this comparison is that, while the downside of the small cap is much greater, so is the upside. You can't simply focus on one side of the equation. And that might be an important point when it comes to QLACs.
In terms of investing, bypassing a QLAC and investing the money has better odds of yielding a greater income. That may be true, but it's not the point. As long as those odds are less than 100 percent, there's always a chance you won't generate enough income. In this sense, the choice isn't an investment decision, it's a risk management decision.
I'll leave it to others to debate what's the best way to mitigate that risk. The important thing is to make sure the debate is framed in the correct manner. It's my hope that, after reading this article, it is.
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Christopher Carosa
Chris Carosa has been writing a weekly article and monthly column for BenefitsPRO online and BenefitsPRO Magazine since 2011 and is a nationally recognized award-winning writer, researcher and speaker. He’s written seven books, including From Cradle to Retire: The Child IRA; Hey! What’s My Number? – How to Increase the Odds You Will Retire in Comfort; A Pizza The Action: Everything I Ever Learned About Business I Learned By Working in a Pizza Stand at the Erie County Fair; and the widely acclaimed 401(k) Fiduciary Solutions. Carosa is also Chief Contributing Editor of the authoritative trade journal FiduciaryNews.com and publisher of the Mendon-Honeoye Falls-Lima Sentinel, a weekly community newspaper he founded in 1989. Currently serving as President of the National Society of Newspaper Columnists and with more than 1,000 articles published in various publications, he appears regularly in the national media. A “parallel” entrepreneur, he actively runs a handful of businesses, including a small boutique investment adviser, providing hands-on experience for his writing. A trained astrophysicist, he also holds an MBA and has been designated a Certified Trust and Financial Advisor. Share your thoughts and story ideas with him through Facebook (https://www.facebook.com/christophercarosa/)and Twitter (https://twitter.com/ChrisCarosa).
