Annuity Unit

Annuitization is best described as:

1. A.Converting the accumulated contract value into a stream of periodic paymentsCorrect. At annuitization accumulation units are exchanged for a fixed number of annuity units and payouts begin.
2. B.Making a lump-sum withdrawal of the contract's valueA lump-sum surrender ends the contract. Annuitization creates a payment stream instead.
3. C.Exchanging one annuity contract for another without current taxThat is a Section 1035 exchange, which is a transfer between contracts, not the start of payouts.
4. D.Allocating contributions among the subaccounts of the separate accountThat is an allocation decision during accumulation, well before any payout begins.

Why: Annuitization is the event that converts the accumulated value into a stream of periodic payments. Accumulation units are exchanged for a fixed number of annuity units, and the payout phase begins.

Thalia contributes 500 dollars every month to a variable annuity during the accumulation period. Over the course of a volatile year, what happens to the NUMBER of accumulation units in her contract and to the VALUE of each unit?

1. A.The number of accumulation units stays fixed once the contract is issued, while the value of each unit fluctuatesThis describes ANNUITY units after annuitization, not accumulation units. Additional purchase payments must buy additional accumulation units.
2. B.The number of accumulation units increases with each payment, while the value of each unit fluctuates with separate account performanceCorrect. Each contribution buys more units; performance moves the per-unit value. Account value equals units times unit value.
3. C.Both the number of units and the value of each unit are guaranteed by the insurer general accountNothing in the accumulation phase of a variable annuity is guaranteed by the general account. The investment risk sits with the contract owner in the separate account.
4. D.The number of accumulation units fluctuates with performance, while the value of each unit is fixed at one dollarA variable annuity does not hold unit value constant. That constant-value, variable-count design belongs to a money market style account, not a variable annuity separate account.

Why: During accumulation, every purchase payment buys additional accumulation units at the unit value in effect on that day, so the NUMBER of units Thalia owns only goes up as she keeps contributing. The VALUE of each unit rises and falls with the investment performance of the separate account subaccounts she selected. That split is the whole architecture of a variable annuity: units measure ownership, unit value measures performance. Her total account value is simply units times unit value, so it can fall in a bad year even though her unit count never falls.

During a variable annuity's payout phase:

1. A.The payment is guaranteed levelA level payment is what a fixed annuity delivers, and it is exactly what the contract owner traded away. The variable payout is recalculated each period from the current annuity unit value, which is the mechanism that offers a hedge against inflation and the reason the payment can fall as well as rise.
2. B.Units are added each monthUnits accumulate during the accumulation phase, when purchase payments are still going in. Annuitization reverses the flow and locks the unit count in place; from that point money comes out, so nothing is being added.
3. C.The number of annuity units is fixed and the payment variesCorrect - fixed units, variable payment.
4. D.Both units and payments are fixedThis gets the fixed half right and then over-applies it. The number of annuity units is indeed frozen at annuitization, but the value of each unit continues to move with separate-account performance measured against the AIR, so the dollar payment varies from period to period.

Why: The number of annuity units is fixed at annuitization; the payment amount then varies with the value of each annuity unit.

During the accumulation phase of a variable annuity, purchase payments buy accumulation units. When the contract is annuitized:

1. A.The value is converted into a fixed number of annuity units whose per-unit value then fluctuates with separate account performanceCorrect. Fixed unit count, floating unit value, which is why the monthly payment varies.
2. B.Accumulation units continue to be purchased with each annuity paymentAccumulation ends when the payout phase begins; no further units are purchased.
3. C.Payments become a fixed dollar amount guaranteed by the insurer for lifeThat describes a fixed annuity. A variable annuity's payments move with the separate account.
4. D.The number of annuity units changes each month while the value per unit stays fixedThis reverses the mechanism. The unit count is set once at annuitization.

Why: At annuitization the accumulated value is converted into a fixed number of annuity units, and that number never changes for the rest of the contract. What changes each period is the value of an annuity unit, which rises or falls with separate account performance relative to the assumed interest rate. That is what makes the payment variable. The clue is which quantity is fixed and which floats.