If you need reliable, guaranteed retirement income, annuities can be one of your best options.
Why do I say that? For one thing, annuities can act as a hedge against longevity risk — the possibility that you will outlive your money. People are living longer than ever before and, as a result, the old 4% rule is no more. According to this rule, if you begin by withdrawing 4% of your savings the first year of retirement and adjust subsequent withdrawals to account for inflation, you likely would not run out of money. However, longer lives make that a little more problematic.
Also, new research shows that the key to financial stability today is guaranteed income that ensures you can cover your basic living costs in retirement. As one of the greatest fears for pre- and post-retirees is running out of money, I believe we all need guaranteed income.
The Basic Pros and Cons of Annuities
Just about any investment comes with some risk, but specific types of annuities can help protect the money in the annuity from market downturns. If the market declines after you purchase a fixed or indexed annuity, the value of your account won’t change.
There’s a tradeoff for that stability, of course. Interest rates or earnings on fixed and indexed annuities tend to be lower because they are typically capped, so you may not earn the same yield as other types of investment products. But the floor is zero, which protects you against market loses.
Annuities aren’t for everyone. They aren’t the best vehicle for growth or to offset inflation, and they aren’t necessarily designed to be part of a legacy plan (though there are options that can provide that benefit). Annuities also tend to get a bad rap (in some cases deserved, but usually not) about financial professionals being out for their own gain.
But an annuity with an income rider can produce a contractually guaranteed income stream that will last as long as you live, no matter what happens to the markets or the economy. These days, with employer pensions rapidly disappearing, that’s a role that needs to be filled in many retirement plans. People need monthly income they can count on when they no longer earn a paycheck.
Similar to Social Security, you can begin taking income at a specific age for a specific amount. If you allow your annuity plan to grow and you defer taking income for a specific period, you can create your own pension plan.
Annuities Are Only 1 Part of a Well-Rounded Plan
As we age, needs and values change, and various equities should remain an important allocation in pre-retirement and retirement. But as you get closer to retirement, you begin to consider preserving what you’ve saved. Reviewing these products and benefits is a key part of building a balanced plan that provides the income you’ll need for years to come.
As a wealth manager, I can use equities for income, through preferred stocks, dividends, bonds, REITS, etc. for my clients. The income that equities provide will fluctuate, as the value of those shares can rise and fall. In most situations the annuities will offer stronger income guarantees that you cannot outlive.
If there’s a market downturn in the years just before you retire or early in your retirement — and you’re relying on those investments for income — it could devastate your plan. Oftentimes, retirees whose plans force them to sell their equities for income are stuck. Sometimes they simply can’t wait for their nest egg to recover from a market correction. Or worse: They must keep making withdrawals to pay the bills.
But because of its reliability, an annuity can actually help protect the other investments in your portfolio. It allows your stock portfolio to continue appreciating in good times and bad, because you won’t feel as though you have to sell those holdings for income when the market is down. It adds another level of diversification that insulates the entire plan.
Adding an Annuity to Your Mix
How much should you put into an annuity for retirement planning? A lot depends on your age, risk tolerance, goals, income needs and how much you’ve managed to save. It also depends on what your other income sources (Social Security, a pension) will provide, and if you’re single or married. Generally, a mix of the various products between annuities and other investments is a realistic goal. For me, I would like to see a portfolio designed with various types of equities to help offset inflation, liquidity and for long-term growth, with annuities to provide that guaranteed income stream to cover your basic everyday living expenses to provide that monthly paycheck.
The bottom line is, if income is your concern, a fixed-index annuity can be a worthy tool for building a dependable and steady paycheck in retirement. I tell people to think of it as a do-it-yourself pension.
The critics are correct when they say annuities are complex and aren’t a fit for every plan. It’s important to understand how they work and if they make sense for your overall plan and income needs.
Like you, I have the same financial concerns, worries about my spouse, and providing for my kids and grandkids. For me, annuities are a planning tool that can help offset those concerns as much as possible.
Kim Franke-Folstad contributed to this article.
Investment advisory services offered through Laurel Wealth Advisors Inc., a Registered Investment Adviser. Annuities are insurance products that may be subject to restrictions, surrender charges, holding periods, or early withdrawal fees which vary by carrier. Riders are generally optional and have an additional associated cost. Annuities are not bank or FDIC insured. Investing involves risk, including the potential loss of principal. Any references to protection benefits, safety, security, lifetime income generally refer to fixed insurance products, never securities or investment products. Insurance and annuity product guarantees are backed by the financial strength and claims-paying ability of the issuing insurance company.
Stewart J. Weissman is founder of Wealth Preservation LLC (wealthpreservationllc.com), a California-based independent financial services firm offering estate planning, life insurance, retirement planning and wealth management. Stu also hosts the "Safe Money & Income" radio show.
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