Are the companies that provide annuity products safe in the current upheaval of the banking and financial services industry?

There has been a ton of recent discussion in the press about the financial health of life and annuity insurance companies.  In particular, there has been discussion surrounding the health of insurance companies that have provided living benefit guarantees that accompany variable annuities.

It is perfectly reasonable to be concerned about the ability of insurers to make good on their financial commitments.  With annuities, many of the contracts are long-term and involve large amounts of money that represent a significant portion of the policuholder's net worth.

It is important to keep in mind, though, that insurance companies in the United States are highly regulated financial entities.  Capital and solvency requirements for insurers are very different that many other companies such as banks, investment banks, hedge funds, etc.

In addition and as explained below, there are many state-level safety nets for life and annuity policyholders.

It's important to try to cut through the noise of the headlines and understand the facts surrounding a particular insurance policy or company.

The above said, the main concern on the minds of many people who have or are considering annuities is credit risk.  In other words, there are concerned about will happen to their annuity if the insurance company that provided the product goes out of business.

There is one blog entry related to this topic (more to follow since it is a hot topic) that can be found by clicking here.

The credit risk associated with an annuity depends both on the financial health of the insurer the type of annuity product under consideration. 

Fixed annuities are at risk when the insurer becomes insolvent.  However, "guaranty funds" in each state provide consumers with various amounts of protection.

There is very good information about state level protections at the National Organization of Life and Health Guaranty Association ("NOLHGA") website.  Information about NOLHGA and the amount of protection provided in your state can be found by clicking here.

Very generally, the maximum protections provided by state guaranty funds are in the $100,000 range. 

There are a couple of things to consider with fixed annuities in light of the limited protection provided by state guaranty funds.  First, a person could diversify their fixed annuity purchases.  In other words, buy 3 $100,000 annuities from 3 different insurance companies if you are purchasing a $300,000 fixed annuity.

Second, you could spread purchases out over time and create a "ladder" of fixed annuity purchases.  This "time deversification" is another way of dealing with credit risk.

Variable annuities are a different story.  When it comes to credit risk or potential insolvency of an insurer, there are 2 parts of a variable annuity.  The first part is the separate account.  This is where the various subaccounts or mutual fund investments are.  The separate account is an asset of the policyholder--not of the insurance company.  Therefore, the assets are not at risk if the insurer becomes insolvent.

The variable annuity general account is where the fixed investments reside.  Any funds in the general account are considered assets of the insurance company, so credit risk does come into play.  That said, the same guaranty fund provisions described above should apply to funds in the general account.