A Smart and Simple Way to Get Guaranteed Income in Retirement

People have long been conflicted about annuities. On the one hand, they like the guaranteed lifetime income that only these insurance products can provide retirees. In fact, a recent survey of people 55 and older found that 73% considered guaranteed income a highly valuable addition to Social Security.

But they don't like having to give up access to their savings: 75% of working-age investors polled last year for the Wells Fargo/Gallup Investor Optimism and Retirement Index said they want the freedom to spend their retirement savings however they choose, even if it means possibly running out of money too soon.

Fortunately, there's an easy way to resolve this conflict — compromise.

In this case, give up control of a modest portion of your nest egg, say, 20% to 30%, and invest it in an annuity to receive steady income you can't outlive.

Then invest the rest of your savings in a traditional portfolio of stock and bond funds that can generate long-term growth to hedge against inflation and act as a ready stash you can tap to pay expenses beyond what Social Security and your annuity will cover.

There are a number of different types of annuities you could use to pull off such a strategy. But if you want to keep things relatively simple and hold down costs, there are two that are especially worth considering:

Immediate Annuities

The first is a plain-vanilla, no-bells-and-whistles immediate annuity. In the world of annuities, this is about as simple and straightforward as it gets.

In return for a one-time sum you hand over to an insurance company, the annuity provider agrees to pay you a specific amount each month. The payments start right after you buy the annuity and continue the rest of your life, whether you live to 85 or 105.

So, for example, 65-year-old man who invests $100,000 in an immediate annuity today would receive about $545 a month for life, while a 65-year-old woman would get about $520 a month (the lesser amount for the woman in this case reflects the statistical probability that she is likely to live longer than a typical man).

That money, combined with your Social Security benefits and any pension payments would represent guaranteed income you could count on throughout retirement, no matter how long you live.

Longevity Annuities

The second type of annuity that works well in such an arrangement is a deferred annuity, a.k.a. a longevity annuity.

Where do they come into play? Let's say that between Social Security and withdrawals from savings, you figure you'll have enough money to cover your retirement expenses. But you fear that late in retirement, you may have to rely solely on Social Security if you spend through your nest egg more quickly than expected.

To avoid such a scenario, you could buy a longevity annuity that wouldn't begin making payments until you reach a specific age, say, 75, 80 or even 85.

Since the payments won't start until many years in the future, you can get a sizable future payment with a much smaller investment than you'd have to make with an immediate annuity, which means you give up access to less of your savings.

For example, a 65-year-old man who invests $30,000 in a longevity annuity today could begin collecting payments of $1,030 a month at age 85. A woman the same age would receive about $855 a month starting at age 85. (You can get quotes for both immediate and longevity annuities for different ages and amounts invested by going to this annuity payment calculator.)

In both cases, the basic premise and appeal are the same: By investing a modest portion of your savings in an annuity, you get the benefit of additional guaranteed income you can't outlive, while still having the ability to invest the rest of your stash and draw on it as needed.

When Annuities Don't Make Sense

Of course, not everyone needs or should own an annuity. For example, it would make little sense to buy one if you have serious health problems that could seriously curtail your life span, as you could end up forking over a considerable sum for relatively few payments (or possibly none at all in the case of a longevity annuity).

That said, if you have a spouse or significant other, you may still want to consider a joint-life payment option, which makes payments as long as either member of a couple remains alive.

Similarly, buying an annuity for extra guaranteed income may not make sense if Social Security and any pensions will already cover most or all of your essential retirement living expenses. And even if that's not the case, you still may want to forgo an annuity if your nest egg is large enough that your chances of running through it during your lifetime are small. (You can estimate how long your savings might last given different withdrawal rates by going to this retirement income calculator.)

If you decide this "compromise" approach might be right for you, you'll still want to do a little more legwork before committing to it.

For example, since payouts can vary by 5% to 10% from insurer to insurer, you'll want to shop around to make sure you're getting a competitive payment. And you'll want to consider moves like investing your money gradually rather than all at once and spreading your annuity investment dollars among several highly rated insurers.

For more on these and other tips, check out this column.

Walter Updegrave is the editor of RealDealRetirement.com. Have a question you'd like Walter to answer online? Send it to him at walter@realdealretirement.com. Follow Walter on Twitter at @RealDealRetire.

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