Longevity and good health should be the goal for all of us and it shouldn’t be adverse to our financial situation, but it can be. Because retirees are living so much longer, they also run the risk of outliving their portfolios, especially with today’s market conditions. Modern mortality tables show that there is a 50% chance that a surviving spouse will live to age 92 and a 25% chance that they will live to age 97. Many investors who are looking to retire, and even those who are well into retirement, really haven’t considered the reality that their portfolio might need to last 30 plus years.
Annuities’ Original Design
Insurance companies are in the business of managing risk, so with the design of the annuity, they take on the longevity risk, or the risk that people will outlive their funds. The idea of guaranteeing a pension totally makes sense when you consider the idea that in virtually every other area of life we insure what is valuable; Life, Home, Auto, Liability, etc. The original design of the annuity was to insure income.
The original annuity design simply took funds that were deposited and paid out a lifetime income stream over a single life or joint life in the case of a married couple. The concept was good and it still is being used today. The problem with this strategy is under most cases the decision to use this option is irrevocable and cannot be changed so the original principle is no longer available to the owners or to the beneficiaries. In some cases, if a LIFE ONLY option is exercised the principle is lost to the insurance company at the death of the owner(s). If a Life with Period Certain, such as 10 years, is elected as a payout option then if the owner(s) should die before 10 years, the heirs still receive the remaining payments, and in most cases insures that the original deposit is received by the owners and/or beneficiaries.
Today’s Popular New Design
Today we are seeing many variations of a similar concept as the immediate annuity in the form of annuities that guarantee a determined withdrawal or income amount. There are many variations of this design, but overall it can be categorized as what is known today as an Income Rider.
The main difference between this newer feature and the early immediate annuities, is you can have your cake and eat it too. You can still have your deposit that can grow and earn interest, and still take it out either with a penalty, if it is within your surrender period, or without a penalty, if it is past your surrender period. You also can receive income for life, even if the account value is depleted to zero, and finally the beneficiaries will simply receive, in most cases, the remaining account value.
The Income Rider was first introduced within the Variable Annuity, and later the Index Annuity added this benefit. Today Index Annuities are offering higher payouts than Variable Annuities in most cases.
Another Solid Strategy
With today’s historically low interest rates across the board from CD’s to Bonds, simply withdrawing funds from an annuity that has a stable account that can’t lose, and that has solid returns, can also be a very good strategy. This can be a much better idea than trying to withdraw funds from a portfolio that can lose money, and spiral down very quickly due to market corrections and the negative effect of the math of gains and losses.
For retirement income planning, using annuities to guarantee income can be one of the best planning ideas available today. Depending upon the age and longevity of each person, any of the above annuity strategies can allow a person to take a set portion of their portfolio to produce income. This allows the remaining funds to grow unencumbered with the demands for income.
In the past the old 4% rule was often used as a safe withdrawal rate from a balanced market portfolio made up of stocks and bonds, but with today’s low interest rates and volatile markets there is new research that says that number is now 2.8%. Even if we still use the 4% rule it would take a portfolio of $1,000,000 to produce an income of $40,000.
By using any of the income strategies within annuities, the withdrawal rate can be increased dramatically depending upon ages. As an example, a 62 year old retiree, depending upon the income annuity strategy, may be able to take a withdrawal rate as high as 5.5%, and a 70 year old as high as 6.5%.
So a 65 year old may now need only $650,000 to produce $40,000 of income that may also be guaranteed for life, (depending on the strategy and based on rates available at the time this is published).
The use of annuities for guaranteed income is really providing a much needed resource for the millions of people coming into retirement that don’t have large portfolios while facing increasing mortality and the risk of outliving their income.
In today’s world, the once popular idea of working for one company your entire career and retiring with a nice pension no longer exists. Unless you are retired military or work in some type of government or institutional job, people today have to rely on their investments for lifetime income. Thankfully the annuity today is providing the opportunity for individuals to create their own pension or lifetime income plan.
Important to Research
With the increase in demand for annuities, we have also seen an increase in complexity, and how is a consumer to know which option is best for them? Each person and situation is different so a personal case design is the answer. To find out what is your best option complete the information below and we will provide you with the best opportunities available in your state.