For most retirees these days, maximizing the amount of
income they can safely take out of their portfolio is the most important financial
objective. It’s the one thing that makes everything else possible. Being able
to enjoy time with grandchildren, take time out to enjoy golf or travel, secure
your nest egg against the need for long term care – it all hinges on your ability
to convert your retirement nest egg to an income that will last you and your
spouse a lifetime.
Some advisors rely on mutual funds and a tool called “Monte
Carlo” analysis – they use a computer to calculate hundreds of scenarios – all based
on backward-looking data, not forward projections – all to tell a
soon-to-retire couple “based on what you’ve told me about your income needs and
our best guess about your rate of return, I have good news! There’s only a 20
percent chance you will run out of money before you both die.”
That’s not good enough.
No one would want to get on an airplane with only an 80
percent chance of a safe landing. But financial advisors who rely on nonguaranteed
investments such as mutual funds, stocks and corporate bonds do just that every
Surely there’s a better way to secure a guaranteed
retirement income. Can regular people create their own pensions?
There is, and you can.
Lifetime Income Annuities
Lifetime Income Annuities, or LIA, exist to take a lump sum
and convert it to a stream of income that you can never outlive –
guaranteed. It’s simply a contract with
an insurance company: You contribute premium, and the insurance company converts
it into a contract guaranteeing, in writing, a certain amount of income each
month or each year, for as long as you, or you and one other individual (usually
a spouse) shall live. Guaranteed.
Advantages of Lifetime Income Annuities
The security of a lifetime income annuity may give you the
confidence to seek greater returns with other parts of your portfolio, knowing
that no matter what, your basic monthly expenses are covered.
Lifetime income annuities also generally allow for a
substantially greater steady monthly income than you can get from a bond or
mutual fund portfolio alone, unless you spend down principal. This is because
of a concept called mortality credits.
Essentially, those who die sooner than average don’t need their income anymore,
so it goes to those who love longer than average. As a result, the lifetime
income annuity is able to deliver a higher payout, on a guaranteed basis, than
ordinary fixed annuities, CDs, money markets and income funds. In most cases,
this payout is higher than that available from investment grade bonds, though
individual bonds can vary widely in terms of coupon payments and risk
Tax Deferral. Growth within annuities is tax-deferred. You
only pay taxes on income you take out, attributable to growth. The portion attributable
to the return of your own premiums is tax free. As a result, only part of your income
from a lifetime income annuity is subject to income tax.
Lifetime income annuities also help get money out of your
estate, potentially reducing estate tax liability.
In some jurisdictions, lifetime income annuities help
provide asset protection benefits as well: Creditors may go after the income in
a civil suit. They cannot generally touch your principal in a lifetime income
annuity. You own a stream of income, rather than a lump sum. This makes it
difficult for creditors to collect.
Disadvantages of Lifetime Income Annuities
Generally, a commitment to a lifetime income annuity is
irrevocable. You should consider keeping enough cash or other reasonably liquid
asset in reserve to react to a personal emergency. Some annuity contracts
provide for one or two “accelerations” of several months’ worth of income. But individual
contracts vary widely on this feature.
When interest rates are low, annuitizing your assets
essentially locks in a lower payout than you could possibly get by waiting
until rates rise.
Any assets you contribute to a lifetime income annuity for
yourself and/or your spouse are lost to future generations. If you die early, the
insurance company keeps everything. However, most annuities provide a death
benefit – your heirs will receive the full amount you paid in, minus any benefits
paid to you.
All benefits in an annuity contract are subject to the
claims-paying ability of the insurance company. If the insurance company
becomes insolvent, your benefits could be interrupted or reduced.
If you are retired or in the stage of planning your retirement,
the lifetime income annuity is one of the most important tools in your kit.
Give careful thought to how much of your retirement income you want to
guarantee. And give us a call at (423) 279-9060.