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Annuities: The Next Big 401(k) Craze

Roller-coaster stock market rides and a lack of traditional pension plans are fueling demand for annuities in company 401(k) plans.

Stable, old-fashioned annuities are coming to a 401(k) plan near you. Workers will increasingly look for safer investment options that lower the risk of everyone's worst nightmare: outliving your retirement savings. While owning a mix of stocks, bonds and mutual funds is touted as a good long-term bet, workers fret that market volatility -- like the tech bust -- can damage their nest eggs. That's especially true for older workers who may not have enough years to recover from slumping markets and for those who will depend almost entirely on their 401(k) plan because they don't have a pension to go with it.The move to include annuities is part of a broader trend in which employers offer options that enhance stability and make it easier for their workers to reapportion their 401(k) holdings as they get older and earn more. For example, more businesses are including "target date" funds that automatically reset the asset mix (stocks, bonds, etc.) over the years based on an expected retirement date. Another popular feature is "automatic deferral" increases, in which workers' contributions rise along with bump-ups in salary.

With annuities, workers contribute pretax dollars each pay period, much as they do with other investments. The payout at retirement is based on a formula that takes into account factors such as age, interest rates and total amount of contributions. Some annuities also have features to guard against inflation or provide survivor benefits.

Annuities have some clear advantages. They promise a steady income stream after retirement, no matter what happens to the stock and bond markets. Right now, only about 50 companies offer annuities in their 401(k) options, but look for most to do so within the next decade. Workers want them, and employers will be at a competitive disadvantage if they don't provide them.

Another plus: Buying an annuity inside a 401(k) is much cheaper --sometimes 50% cheaper -- than buying one outside the plan because there are no commissions to a financial planner or insurance agent.

But there are disadvantages: Lack of portability is one. If you switch jobs, it may be tough to find an equivalent annuity in your new company's plan. That's why some insurers offer the annuity option only to workers aged 50 and over, thinking that they’ll be less likely to job-hop. Also, if you look to cash out of your annuity and move the money elsewhere inside the 401(k), its market value may be lower than you hoped if interests rate are low at that time. If you choose an annuity, it makes sense to hold on to it until retirement. Another risk: Some plans don't have a survivor benefit, so there is nothing to pass along to your heirs. The longer you live, the more you'll collect -- but if you die earlier, the insurance company keeps what's left.

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