Terry Herr, CFP®, CLU
Not much in life comes with a guarantee - annuities are an exception. These insurance contracts can guarantee you a fixed income stream in retirement as well as some other benefits. When it comes to purchasing an annuity, your current age and relation to retirement can make a big difference. However, the best age for purchasing an annuity depends on your individual situation and goals. What works well for a person with a higher risk tolerance may not prove suitable for someone only seeking conservative investments and vice versa.
Annuities are complicated. As with any investment, it is vital to understand how they work, as well as any potential pros and cons.
Annuities are available as either fixed, indexed or variable and as immediate or deferred. Immediate annuities start payments right away, while deferred annuities promise to pay the investor a lump sum or monthly payments at an agreed-upon future date.
Fixed-income annuities provide the classic guaranteed monthly payment and tend to be a more attractive choice for those aged 60 and up.
Premiums paid to variable annuities are invested in the stock and bond markets, with money market options - meaning they present more risk. If you do not plan to retire for several years, choosing a variable annuity could present the opportunity for more growth. Remember, however, that these gains would not come with a guarantee. There is also the potential that losses could affect the principal amount.
Indexed annuities pays an interest rate based on the performance of a particular index. The S&P 500 is among the most common. An indexed annuity allows the purchaser to earn higher yields when the market does well. In bearish years, the insurance contract provides a small, guaranteed interest rate. Indexed annuities are typically recommended for those planning to retire in the next 10 to 15 years.
Considering Your Retirement Income Needs
Before considering an annuity, calculate your income needs in retirement. Besides Social Security, take into account the value of any pensions, 401(k)s (or similar employer-sponsored retirement plans) and IRAs. Do you intend to retire completely or work part-time? Do your retirement plans include a lot of travel or costly hobbies? Do you intend to downsize, move to a less expensive area or maintain your current home? These are all crucial considerations to make when determining your retirement income needs.
Maximizing the Monthly Payment
The longer you wait to invest in an income annuity, the higher your monthly income stream. If you retire at 65 and purchase an annuity, you start receiving that immediate income stream, but it is not nearly as much as if you waited a decade. For example, the monthly payout for someone who purchases an annuity at 75 would be greater than the amount someone aged 65 receives for the same product.
Keep in mind that monthly payments are fixed amounts. They do not rise over time, but they also do not go down. What does change over time is how much of that monthly income is eaten away by inflation. That’s why maximizing that income stream is so critical. It can make a tremendous difference in your standard of living in retirement.
Many annuities being purchased today have various riders that can be attached to them. An annuity rider is a provision that you can add to your annuity to help ensure it meets your financial needs. Most often we see Guaranteed Minimum Living Benefits, Guaranteed Minimum Death Benefits and Long Term Care Benefits. (although other riders may be available.) Often these riders may be the catalyst that makes the annuity suitable to meet you financial goals. Living benefit riders most often come in the form of lifetime income guarantees which will continue to provide you income regardless of investment portfolio or index returns. Often the income will continue even if the value of the investment goes to zero. Of course, the riders offered by each insurance company vary, so it is important to read and understand how they work before purchasing.
How Long Will You Spend in Retirement?
The mystery of life is that any one of us could be here today and gone tomorrow. Still, healthier people tend to live longer than those with chronic conditions. These days, people are living longer overall, and it is wise to consider the possibility that you could reach the century mark. That means you must plan for income over a potentially long lifespan. If you have reason to expect an exceptionally long life, your annuity decisions should reflect that.
If you enjoy good health and your relatives tend to live to ripe old ages, it may be beneficial to wait as long as possible before buying an annuity. Of course, that is assuming you have sufficient retirement income to maintain your lifestyle.
When to Buy an Annuity
The average age of an annuity holder is 70 years old.1 Waiting longer means receiving higher monthly payouts for those purchasing an immediate annuity.
Those seeking to buy a deferred annuity tend to be much younger, generally between the ages of 45 and 55. These younger buyers can take more risks with investments since they have a longer timeline to retirement. If losses occur, they have time to allow their money to (hopefully) recover. That is not the case with the older investor, who tends to be better off relying on more conservative investment strategies.
We can help you understand the intricacies of annuities and which, if any, of these contracts best suits your needs. Annuities are not for everyone, but for some, they are good vehicles to ensure sufficient income to enjoy the retirement you planned. Contact us to create your retirement income plan.
This content is developed from sources believed to be providing accurate information.. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Guarantees apply to certain insurance and annuity products and are subject to product terms, exclusions, limitations and the insurer’s claims paying ability and financial strength. Before investing, consider the investment objectives, risks, charges, and expenses of the annuity and its investment options.