When thinking of life insurance/annuities companies, one of the first things that pops into people’s minds is, what is the letter grading – AAA, AA, A+, A-, B++, etc.?
I have had people call me and say, “I want a AAA-rated company and nothing less.” I understand their concern, but my response is they should just keep their money in a bank CD because they’re going to make about the same amount of interest from a company with that rating.
The letter grade is important, but it’s not everything. In this week’s newsletter, we are going to discuss important financial aspects of insurance/annuity companies that you should look for, including the letter grade.
How Do Life Insurance/Annuity Companies Receive Their Grading?
Life Insurance/Annuity Companies are graded by 4 different Rating Agencies: A.M. Best, S&P Global, Moody’s, & Fitch. There are several other rating agencies, but these 4 are the ones you will see the most.
They will basically rate an insurance company from, Very Strong, to Weak, or even Insolvent. The ratings are based on the financial standing of the company based on its investment portfolio. The stronger and more stable the investment portfolio, the higher the letter grade.
How Are the Investment Portfolios Rated?
Investment Portfolios of Life Insurance/Annuity Companies are graded by NAIC Ratings. Here is an example that is taken directly from a company’s financial disclosure:
NAIC: NAIC is an acronym for the National Association of Insurance Commissioners.
NAIC 1 Rating: NAIC 1 is assigned to obligations exhibiting the highest quality. Credit risk is at its lowest and the issuer’s credit profile is stable. This means that interest, principal, or both will be paid in accordance with the contractual agreement and that repayment of principal is well protected.
An NAIC 1 obligation should be eligible for the most favorable treatment provided under the NAIC Financial Conditions Framework.
NAIC 2 Rating: NAIC 2 is assigned to obligations of high quality. Credit risk is low but may increase in the intermediate future and the issuer’s credit profile are reasonably stable. This means that for the present, the obligation’s protective elements suggest a high likelihood that interest, principal, or both will be paid in accordance with the contractual agreement, but there are suggestions that an adverse change in circumstances or economic, financial, or business conditions will affect the degree of protection and lead to a weakened capacity to pay.
An NAIC 2 obligation should be eligible for relatively favorable treatment under the NAIC Financial Conditions Framework.
What Do Life Insurance/Annuity Companies Invest In?
Life Insurance/Annuity Companies are not allowed to risk your money. The majority of their holdings are in long-term investment-grade bonds and fixed-income investments. However, they are allowed to hold a small portion of their holdings in other investments such as: mortgages, private credit, stocks, cash & other short-term investments.
Depending on how much they have in investment-grade bonds will determine their letter grade. It can be a small difference between an A-Rated Company having 93% of their portfolio in NAIC 1 & NAIC 2 rated investments, versus a B++ company having 91% in NAIC 1 & NAIC 2.
The NAIC will take into consideration the credit quality of those investments as well. For instance, are some of those holdings in a company like Coke Cola? Or are they in an oil company located in Venezuela? These are just hypotheticals, but the point is the credit quality is very different in these two companies.
What else should be taken into consideration when evaluating a Life Insurance/Annuity Company?
There are a couple of other things to consider when evaluating a Life Insurance/Annuity Company:
- Solvency Ratio
- Risk-Based Capital
Solvency Ratio expresses financial soundness and a company’s ability to meet the policy obligations as they come due. Assets (bonds, stocks, cash, and short-term investments) divided by each $100 in liabilities (excluding separate account liabilities) result in the Solvency Ratio, expressed as a dollar figure. The higher the amount, the stronger the company’s position to cover unforeseen emergency cash requirements.
Obviously, you want a solvency ratio over $100.
Risk-Based Capital are formulas derived under the NAIC models. In a nutshell, the RBC measures the amount of capital required to meet different elements of risk, including asset, interest rate, insurance, and business risk(s). A company reporting total adjusted capital of 200% or more is considered within acceptable levels. RBC ratios of 300-350% are common in the industry. Companies whose RBC ratios fall below 200% fall under regulatory controls by the state insurance departments.
So, what is the verdict? Should I only use a life insurance policy or an annuity from an A-Rated Company?
Well, you’re obviously never going to go wrong with that choice. But there are plenty of B++ Companies that are very strong when you take the Solvency Ratio & the Risk-Based Capital Score into consideration. I personally would never recommend a company below a B++.
What does Atlas Financial take into consideration when choosing a company?
- Financial Strength. As mentioned above, my recommendations will be a B++ or above.
- Best Benefits. The benefits will be individually chosen for each client depending on their needs and the purpose of their money.
- Customer Service. If a company keeps me on hold for an hour – the guy who is bringing money through the door – how long will my client have to hold. This is a big deciding factor for me.
- Highest Payout or Potential Growth. Depending on the purpose of the money, income or growth, will determine what company I recommend. One company that is dominating for guaranteed income, probably will not be the same company I recommend for a client looking for growth.
Have you been recommended a company or a product that you’re just not sure about? Then I would highly recommend booking a short visit with me by going to www.atlasannuity.com so we can evaluate what you have been given.
And if you want to learn how to use annuities to their maximum potential, whether for growth or income, then take the time to watch my video series, How to Get 20% More Income in Retirement. And, of course, you can always reach me directly at 636.926.6500.
All the best,
Marty