The buying process for secondary market annuities

By Nathaniel Pulsifer

Annuity Straight Talk


As a follow up to my article, Secondary market annuities: Understand them before your clients do, this piece details some of the unique strategies I put in motion to ensure that investors have the smoothest transaction process possible. While there are other ways of transferring payment streams, the transaction process below outlines the industry best practices.

First, what are secondary market annuities?

Secondary market annuities (SMAs) are payment streams that are sold by the original annuitant in exchange for a lump sum payment. The vast majority of SMAs available are part of a structured settlement in a personal injury lawsuit. When the original annuitant sells his or her future payments for a lump sum, a secondary market annuity is created — an existing payment stream, transacting in a secondary market.

SMAs offer fixed-term receivables from top-quality insurance carriers, yet come with yields 1 percent to 4 percent higher than comparable assets. SMAs offer all the benefits of a primary market, period-certain, guaranteed annuity, but at a higher yield. Simply put, they offer higher returns with the same low risk.

Buying an SMA

SMAs come in all types of period-certain payment streams, from short and long-term lump sums to deferred income streams, to period-certain immediate incomes.

When an investor identifies a SMA that meets her needs, she reserves the case with a simple form that outlines how she wants the payments to be made payable to her by a payment service provider.

In times past, this reservation started a sometimes lengthy waiting period as the transfer of the payments moved through a court approval process and legal review. All too often, reserved cases would drag on for months only to fall apart, leaving investors with lost opportunity cost (but, no financial cost).

But new industry practices now make “in stock” cases available on a quick close transfer basis. Investors reserving an “in stock” case will receive a complete closing book the day after the reservation, with all the court documentation showing a complete "chain of title" transferring the payments. Closing can happen in as little as 24 hours from reservation.
What’s in a closing book?

Thorough legal review of the transfer documentation by a well-qualified attorney is a must in the SMA marketplace. Investors skipping this step do so at their own peril. Proper legal review ensures that all of the supporting documentation conveys the payment stream to the investor absolutely and irrevocably, and it is a must for a safe transaction.

The review includes: a thorough examination of the underlying court order and supporting court documents; state-specific statute and disclosure review; verification that the cash flow is free of any liens and attachments; and review of the transfer and assignment documents. Most importantly, a complete closing book includes a final acknowledgement of the transfer by the underlying insurance company.

No investor should ever put forward funds without first reviewing a complete close book. Firms pushing investors to wire money prior to final and complete acknowledgement of the transfer should be avoided at all costs.

Execution of irrevocable assignment

Per the current industry best practices described above, the actual legal transfer of the SMA is accomplished via an irrevocable assignment of cash flows. Upon mutual execution of the irrevocable assignment and exchange of funds, all rights to the payments are transferred, and the transaction is complete.

Purchase price

Each SMA has a unique timeline. The purchase price and closing date are calculated using an estimated close date. When an SMA is ready to close, the exact payments, closing date and effective rate of return are used to calculate the final purchase price.

If the actual closing date occurs before the estimated closing date, the actual purchase price will be less than the estimated purchase price shown on the purchase order.

If the actual closing date occurs after the estimated closing date, the actual purchase price will be more than the estimated purchase price shown on the purchase order.

In either case, the effective rate of return and the payment stream remain the same. The only change is the date of closing and the final purchase price.

An amortization schedule of the exact payments and effective rate of return will be calculated using the actual closing date. The amortization schedule will reflect the final purchase price.

Summary of buying SMAs

Buying secondary market annuities may seem confusing to the new advisor. However, it’s a breeze compared to the complexities of most annuity contracts on the market today. This entire article could be summed up in a few words: You client is buying a receivable — a future payment — at a discount today. It’s transferred to your client in a legislated process and thoroughly reviewed by experienced legal counsel. It’s a guaranteed payment, but it is simply cheaper than comparable new, off-the-shelf annuities.

SMAs are worth another look for multi-year guaranteed annuities producers and retirement planners looking for fixed term certainty and a good yield.