Making Your Money Last
Guaranteed Income for Life
Stretch your retirement savings with an annuity.
By Kimberly Lankford, Contributing Editor
From Kiplinger's Personal Finance magazine, July 2009
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Retirees who watched in horror as their account balances plunged along with the stock market now face a new challenge: how to generate enough income to pay their bills.
A widely accepted rule of thumb suggests that if you hold initial withdrawals to 4% of your nest egg during the first year of retirement and increase that dollar amount by 3% in each of the following years to keep up with inflation, you won't run out of money over a 30-year retirement. Now even that strategy may not be cautious enough, and you may have to rethink your plans for retirement income.
Depending on the extent of your losses, you may want to freeze your withdrawals at current levels, skipping the annual inflation adjustment until the market rebounds. Or, if you suffered significant losses of 30% or more, you may want to restart your 4% withdrawal schedule based on the new, lower balance. But that can take a big bite out of your income. Say you started with a $1-million retirement stash and had been withdrawing more than $40,000 a year. If your savings shriveled to $700,000, you'd now have to get by on just $28,000 a year.
There is, however, another way to stretch your income and increase your annual withdrawals to 8% or more of your savings. And you can still be assured you won't outlive your money. A study by the University of Pennsylvania's Wharton Financial Institutions Center found that by purchasing an immediate annuity, you could create a stream of secure lifetime income for 25% to 40% less than it would take to generate the same income from a traditional portfolio of stocks, bonds and cash using the 4% withdrawal rule. (That's because with an annuity, you're tapping both your principal and your earnings as well as pooling your risk with other annuity owners.)
Say you're a 65-year-old man with a $1-million nest egg that has shrunk to $700,000. If you use half of your money to buy an immediate annuity, you would receive nearly $29,000 a year in payouts. (A woman would get slightly less because of her longer life expectancy.)
With the remaining $350,000, you could continue to invest in a diversified portfolio of stocks, bonds and cash, and withdraw 4% a year. That would produce another $14,000 annually. Together with the annuity payouts, your retirement income would total about $43,000 a year -- $3,000 more than under the original 4% withdrawal scenario, even though your portfolio is now worth 30% less.
There's a catch
Naturally, there is a downside: With an immediate annuity, you give up control of the money. And although you get the maximum monthly income with a single-life annuity, it stops paying out when you die. If you die prematurely, you forfeit a chunk of your initial investment (which is then returned to the investment pool to pay the benefits of other annuity holders).
Most couples choose a joint annuity that continues to pay out as long as either of them is alive. Although the annual payout is smaller than the payout from a single-life annuity, it ensures continued income for the surviving spouse. And if you're concerned that you may both die before you have recovered your investment, you can choose an annuity that promises to refund any unused premium or to continue to pay out to your heirs for a certain number of years. However, each contingency benefit reduces the amount of your monthly check (see the box below).
 HOW MUCH YOU CAN EXPECT FROM A $350,000 ANNUITY | ||||
| Below is an estimate of how much monthly income you would receive for the rest of your life, depending on your age and gender, based on a $350,000 investment in an immediate fixed-rate annuity. Additional options include continuing payments to a beneficiary for up to 20 years if you die before then; refunding any unused premium to your beneficiary if you die before receiving the full amount of your investment; or paying 100% of your benefit to a surviving spouse (the example below assumes you and your spouse are the same age). | ||||
| AGE (MALE) | LIFE ONLY | 20-YEAR PAYOUT | REFUND OF PREMIUM | 100% TO SURVIVOR |
| 65 | $2,394 | $2,088 | $2,264 | $1,964 |
| 70 | $2,714 | $2,151 | $2,494 | $2,201 |
| 75 | $3,183 | $2,191 | $2,797 | $2,487 |
| AGE (FEMALE) | LIFE ONLY | 20-YEAR PAYOUT | REFUND OF PREMIUM | 100% TO SURVIVOR |
| 65 | $2,241 | $2,041 | $2,151 | $1,964 |
| 70 | $2,497 | $2,138 | $2,397 | $2,201 |
| 75 | $2,883 | $2,181 | $2,624 | $2,487 |
| Source: AnnuityShopper.com | ||||
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Reader Comments (13)
Posted by: MJDGator at 06/23/2009 11:14:56 AM
If you are in good health, weigh the option of single life payout and then use the extra monthly income to pay for a Universal Life policy. Then your beneficiaries (wife, children, etc) are covered for your entire life. Not just 20 years. Also, if you have no kids (or you do not want to leave anything for them) and your spouse dies first you can cancel the life policy and keep the extra income. Keep in mind that depending on your age and health the insurance may be too expensive though.
Posted by: Bob at 06/23/2009 11:29:59 AM
I still think our economy has a lot lower to go before handing anyone what money I have left. I also have a little different philosophy of retirement. I plan to spend the most money during the first 10 years and as my health declines I plan to spend less. Right now, numbers are being quoted about the average lifespan which I expect to go down in the next 20 years. People, living past 90 now, were more active in their younger days and didn't clog their arteries with fast food or carry around an extra 50-100 pounds. I expect people under 60 now will not live as long as their parents.
Posted by: Corey at 06/23/2009 11:38:00 AM
Kim, There are annuity products out there now, even SPIA products, that work the balance down and pay a death benefit for premature death. For those who can afford it, another solution to the problem is to buy a life insurance policy to cover premature death, use the extra 3,000 cash in your example to buy death benefit that would replace money lost if you die prematurely with an older SPIA product. I'm glad to hear people finally saying some good things about annuities, they really are good products. You should talk about Variable Annuity death benefit options like annual stepped up, 7 year ratchet, 4% guaranteed increase, things that would allow the policy to pay out the high water mark of your account performance if you die, where as mutual funds and stocks, c.d's only pay you the balance at the time of your death. I have clients who are down 45% on their annuity balance, but if they would die, they'd get most if not all of what they have lost paid out in a death benefit to their heirs. Maybe that can be a future topic you write on.
Posted by: danielamartin at 06/23/2009 01:02:39 PM
One serious consideration not mentioned: annuities are an IOU written by an insurance company. Insurance companies DO go bankrupt on occasion.
Posted by: Steve at 06/24/2009 12:35:51 PM
Having worked for an insurance company that was taken into receivership by the government I can say that their has never been a Life Insurance company go down to the detriment of the policyholders. Policies have always been picked up by the industry. Can you say that for the banks?
Posted by: wkgrt at 06/24/2009 01:26:59 PM
Go back to financial 101 and stop advertising for the Insurance industry. Annuities always benefit the Insurance co. Anything you try to do with an annuity, you can do on your own cheaper by paying a flat fee financial planer. I continuously read articles on this site proclaiming a new idea, when it is just an old prouct being re-cycled with a new name....
Posted by: Roberto at 06/24/2009 10:52:08 PM
If you are worried about an insurance company going bankrupt, then be sure you buy the annuity from a AAA rated company with a mutual form of ownership: Mass Mutual, New York Life, Northwestern, Guardian, TIAA-CREF.
Posted by: immediatelover at 06/25/2009 11:03:48 PM
my response is to wkrgt - are you a fee based planner? you can not do cheaper over the long run. if you do it yourself or pay a planner a fee you can not guarantee an income of over 4% in today's markets or tomorrows. You read article/articles that are 4% or less withdrawal. How can a person taking 5 or 6 or more from their portfolio be guaranteed that their portfolio will not die before they do when they earn 6% before fees? Or are you telling everyone that you will earn 9% or more even in a down market? Get your head out of the sand. This is life!!
Posted by: Jay at 07/01/2009 09:01:23 AM
With what has happened, it's very tough to TRUST any insurance company with your future survival.
Posted by: CONSUMER WARRIOR at 07/17/2009 11:40:52 PM
.....Forbes makes it plain...never buy an annuity....you can do better yourself, skip the commission hustlers that gag you with their hard sell worthless sales pitches.....even with the low low commissions on immediate annuities...
Posted by: rgmcf at 09/27/2009 12:44:53 PM
All of which is really great, but the 43rd and 44th presidents have presided over trillions of bucks being dumped into the economy, and neither did (or has proposed doing) anything about the generational theft deficit of over 50 trillion dollars. I'm not willing to bet against rampant inflation.
Posted by: John2150 at 01/03/2010 08:57:38 PM
I read many of these posts bashing the idea of using an annuity for retirement income. After weighing my options I realized that my nest egg can go to zero before I die but with an income annuity I am guaranteed to recieve payments until I die. I talked with many annuity providers and the folks at www.annuityratesnow.com were very kind and helped me make the correct decision. Because of the financial crisis I was afraid of trusting an insurance company but they helped me find multiple companies with good financial standing to obtain annuity contracts from. I highly recomend their services. One of my prior co-workers found them and referred me to them.
Posted by: Oldgolfdawg at 02/02/2010 10:18:10 PM
What rules of thumb should one consider in setting up a 72T funded by their IRAs? How much should one expect to have to put into a 72T 5-year plan to generate $1,000 a month in income? How does one come up with that number? On what is it based? Thanks in advance.