Insurance to Cover Old Old Age

"Longevity planning" is one of the newest trends in retirement planning. The big question facing aging baby boomers: How do you protect a nest egg as life expectancy rises, pensions disappear and market uncertainty persists?

Creating an income stream that could last well into your nineties is not idle exercise. Thirty percent of all women and 20% of men who reach 65 can expect to live into their nineties, according to the Society of Actuaries.

Financial institutions are developing all sorts of annuity products that offer guaranteed income streams for life for those aging boomers. Depending on the annuity you choose, payments either start immediately or are deferred about five to ten years after you invest.

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But if you want the biggest bang for your buck when you reach the oldest of old age, you could consider a fairly new product called "longevity insurance." The concept is simple: You pay a lump sum to an insurance company at or before retirement age. Starting at age 85, the insurer pays you a relatively large (compared with payouts from traditional annuities) stream of monthly payments for life -- however many years might be left in it. There is a catch: In return for the big payouts, the insurer will keep the entire premium if you die before 85.

The long lead time until payouts makes longevity insurance a tough sell. "People underestimate their own longevity," says Paul Horrocks, vice-president of New York Life, which sells such a product, along with Symetra Life Insurance and MetLife. (Hartford Financial Services, another seller, is pulling out of the individual annuity market.)

Longevity products can offer larger payouts for a smaller upfront cost than other annuities because the insurance company holds -- and grows -- your money for a longer time before payouts commence. Also, the insurer assumes that a certain number of policyholders will die (hopefully not you, dear reader!) before or soon after payouts begin.

MetLife's Longevity Income Guarantee product is one example: With its Maximum Income version, a man who invests $50,000 at age 65 will buy $1,481 in guaranteed monthly income for life starting at age 85 ($1,184 for women because of their longer life expectancy). Compare that payout with the income stream from an immediate annuity, which starts right away. A 65-year-old man who spends $50,000 on an immediate annuity would get just $290 a month. Sure, the payments kick in at 65, but they won't be of much help at 85 if the man's savings are just about gone by then.

Longevity insurance serves a different purpose than other types of annuities. You would take out an immediate annuity, perhaps right after retirement, if you want to make sure you have an income stream to pay your monthly fixed costs, such as utilities and health care premiums. If your savings take a nosedive, at least you know you're covered for the basics.

Longevity insurance protects you from running out of money if you live way beyond your life expectancy. By knowing that you're covered against the costs of old-old age, you are freer to spend more -- and invest more aggressively -- between the ages of 65 and 85, says Jody Strakosch, national director for strategic alliances in MetLife's annuities division. "You have the certainty of knowing that when you turn 85, you have a new source of income," Strakosch says.

Longevity insurance is not for everyone. You should consider the product only if you're relatively healthy and can afford the lump-sum premium without putting a crimp in your standard of living, according to a study by the Brandes Institute, a division of San Diego advisory firm Brandes Investment Partners.

Barry Gillman, research director of the Brandes Institute Advisory Board, recommends not spending more than 5% to 10% of your nest egg on longevity insurance. "You should look at this as a supplement" to other sources of income in later life, he says.

Longevity insurance also may be a better choice than a long-term-care policy if you expect to remain healthy well into old age, says Gillman. And if you end up needing long-term care after you turn 85, the longevity insurance's payouts will cover at least part of your expenses. Of course, says Gillman, "the real risk is that you take out a longevity policy and you get sick at 75."

You can use the Brandes Retirement Simulator (www.brandes.com/institute) to figure out if you should consider a policy. Plug in your future income, expenses and investment strategy, and the calculator will project various financial outcomes if you live until 100. It will show you the possible impact of longevity insurance on current spending and on your income after age 85. Brandes does not sell longevity insurance.

The drawback of longevity insurance is that if you die before the start date, you've lost your investment. And once you hand over your money, you can't get it back. Moreover, longevity insurance generally does not adjust for inflation.

You can buy a hedge-your-bets version of longevity insurance to protect your investment from inflation or an early demise. But those protections come at a cost -- which defeats part of the purpose of longevity insurance.

With Symetra's longevity product, for example, you can sign up for a payout to your beneficiaries if you die within a certain time period. Or you can buy a joint survivor option that pays out for your lifetime or your spouse's -- whichever is longer. With both options, your monthly payout will be smaller.

MetLife offers a Flexible Access version of its Longevity Income Guarantee product. As its name implies, this product offers more flexibility than the company's Maximum Access version. You can start collecting payments before age 85. You can make several premium payments rather than one lump sum, and you can choose a joint survivor option. If you die before taking income, your heirs will receive a benefit equal to your total premium payments compounded at 3% annual.

You also can receive part or all of your initial payment(s) back within 60 days after you start taking income. "This product is for someone who is worried about not getting anything back for his heirs or spouse," Strakosch says. It's also an option for investors who are concerned about running short of money earlier than expected.

Such flexibility is pricey. A man who invests $50,000 at 65 and wants payments at 85 under Flexible Access will get $960 a month, compared with $1,481 with the Maximum Access option. If he pays $50,000 at 60 and takes payments at 75, he'll receive $553.

Other Options for Late-in-Life Income Streams

If you're uncomfortable with buying an annuity with a long deferral period, you may be able to boost late-in-life income with other strategies. For example, you can buy several immediate-payout annuities over time and combine those payouts with tax-free income from a Roth IRA, says Dan Keady, director of financial planning for TIAA-CREF, which sells immediate annuities but does not sell longevity insurance.

Here's how this strategy would work: At retirement age, you figure out your fixed expenses that are not covered by Social Security and other guaranteed income. Then you buy an immediate annuity to cover those costs. In the meantime, you would convert part of your traditional IRA to a Roth IRA. At age 70 1/2, you won't have to take required minimum distributions, and you can allow the money to grow tax-free. Later on, if you need additional income, you can buy another immediate annuity; those payments are added to those generated by your first annuity.

Keady says this strategy serves a couple of purposes. With your fixed expenses covered, you won't have to withdraw from your investments if the market drops. And you'll have the extra cushion of the Roth if you need the money in late life. "You have the annuity stream and you have the Roth in reserve," he says. "If you're 90 and you need the money, it's there -- or you can pass the Roth on to your heirs."