Let’s face it. Annuities generally are not well received in much of the retirement plan adviser community. From the historical impression that “annuities are sold, not bought;” to some advisers perceived baggage associated with being that ghastly “licensed insurance agent;” to the historically “salty” nature of a number of retail annuities; there is a lingering distaste in segments of the plan market to insurance products- regardless of how well suited any particular one may be for a client’s plan.
It is against this backdrop I address a little noticed feature buried deep in the last lines of the proposed 403(b) CIT statutory fix. The proposed CIT’s securities law exemptions also will permit 403(b) plans to purchase interests in non-registered annuity variable accounts. In the past, these investment accounts did not enjoy the exemptions enjoyed under 401(a) plans.
Put aside, for a moment, any anti-insurance biases you may have; the incredible politics of the CIT changes; and the question of whether or not it is sound policy to grant relief to an insurance investment product in a statute designed to promote CITs. Regardless of your view, the proposed statutory change will make available to 403(b) plans what could be the one of the most cost-effective (and flexible) equity asset pooling vehicles available to unrelated employers in the retirement plan market.
It sounds almost heretical to say that an insurance product can collectively pool the assets of unrelated plans better than most any other available investment vehicle. Given the history on how these accounts have been generally utilized (or perhaps, I suggest, under-utilized) by the insurance industry, any skepticism of my assessment is understandable. But a fascinating interaction of ERISA, the Tax Code, and the “natural” pooling nature of insurance companies makes it so.
A quick look at how these non-registered annuity variable accounts are structured may help explain my point. Note that an “annuity contract” can generally provide two features for retirement plans. The first is the provision of guarantees, in the form of protected lifetime payouts (as in your traditional pension payout); in the form of protecting and enhancing investments (as in the fixed indexed annuity); or a combination of both (as in many “Guaranteed Lifetime Withdrawal Benefit” programs). The second feature is a non-insurance one, that is, it uses the insurer’s financial resources to provide non-guaranteed, direct access and exposure to equity markets through the use of the “separate account.”
An insurance separate account is simply a non-trusteed investment account owned and managed by an insurance company. It can only be made available under an annuity contract (contrary to some of the misleading marketing material I’ve seen to the contrary) issued by the insurance company which is purchased by the retirement plan. That contract is analogous to the trust or participation agreement a plan enters into with a CIT. Like a CIT, a variable annuity contract can have any number of different investment separate accounts (often numbering in the hundreds), each operating under a different investment style and separate investment policy from which a plan sponsor or its advisers may choose. The insurer hires investment managers, and charges investment manager fees, in the same manner as CITs.
Like CIT interests, the insurance separate account investments are unitized, and are given an investment value daily; and both these separate accounts and CIT units are exempt from securities law registration if purchased by 401(a) plans. These units can be daily traded, like CIT units, through the DTCC/NSCC system. Though the “unit” in both the CIT and the separate account is considered the plan’s investment which is tracked, valued and reported, the assets within the CIT and the separate account are both considered to be plan assets. The CIT and insurer both hire investment fiduciaries to manage those investments.
The efficiencies and value of the non-registered separate account chiefly arise from the manner in which they are run. Consider that CITs require Rev Rul 81-100 trusts in order to provide pooled investment to unrelated employer plans, while separate accounts do not. They are simply insurance company accounts. As a result, insurers have the ability to pool investments at substantial “scale” in a way which other financial companies simply cannot. Consider further that insurance companies invest large sums of money on a routine basis which gives them substantial influence over investment management expenses (note, for example, the 2021 Life Insurance Fact Book of the ACLI, which reports that the total value of Prudential’s general and separate accounts exceeded $700 million).
Also noteworthy is the fact that these separate accounts can be built to be managed like mutual funds at a fraction of the costs; or be used to cobble together mutual fund investments which they purchase at scale; or to unitize a range of income producing investments; or even to invest in real estate (though that’s a quite another story….).
The CIT legislation enhances these separate account offerings for 403(b) plans by, like CIT interests, putting them on the same footing under 401(a) plans. It then avoids the registration related expenses and costly inflexibility that come from having to register those interests as securities, costs which are otherwise ultimately borne by plan participants.