How much money you will need to save to enjoy a secure retirement depends on the ultimate unknowable: How long will you live?
The possibility of running short is called longevity risk, and the Obama administration last year established rules to foster a new type of annuity, the Qualified Longevity Annuity Contract, that would provide a steady monthly payment until you die.
QLACs are a variation on a broader product category called deferred income annuities, which let buyers pay an initial premium or make a series of scheduled payments and set a future date to start receiving income. Deferred annuities are less expensive to buy than immediate annuities, which start paying out monthly as soon as you purchase them.
You can purchase the plans at or near your retirement age, typically 70, with payouts starting much later, usually at 80 or 85.
The advantage of these QLAC plans is that they provide some guaranteed regular income until death, so they can supplement Social Security. And the deferred feature allows you to generate much more income per dollar invested.
For example, Principal Financial Group Inc, which introduced a QLAC for individual retirement accounts in February, says an $80,000 policy purchased at age 70 will generate $12,840 annually for a man and $11,490 for a woman at age 80. An immediate annuity would provide $6,144 for the 70-year-old man and $5,748 for the woman, according to Immediateannuities.com.
Despite the benefits, annuities have lagged in popularity. The White House thought it could encourage more people to buy deferred annuities if they could be purchased and held inside tax-deferred IRAs and 401(k) plans.
The problem it had to fix was that required minimum distributions mean that 401(k) and IRA participants must start taking withdrawals at age 70 1/2, which conflicts with the later payout dates of longevity annuities.
The new rules state that if a longevity annuity meets certain requirements, the distribution requirement is waived on the contract value (which cannot exceed $125,000 or 25% of the buyer’s account balance, whichever is less).
That not only makes a deferred annuity possible inside a tax-deferred plan, it also can encourage their use for anyone interested in reducing the total amount of savings subject to mandatory distributions.
Sixteen insurance companies are now selling QLAC variations, up from just four in 2012. At Principal Financial, QLACs now account for roughly 10% of all deferred annuities, with the average buyer close to age 70, according to Sara Wiener, assistant vice president of annuities.
Employer sponsors of 401(k) plans are showing more interest in adding income options to their plans, but they have been slow to add annuity options. Still, MetLife Inc is one insurance company testing this market, with a 401(k) product introduced last month.
“If you go back 40 years to the time when defined contribution plans were in their infancy, they were seen as companion savings plans to pensions,” says Roberta Rafaloff, MetLife vice president of institutional income annuities.
“Plan sponsors didn’t think of them as a plan for generating income streams until recently,” she said. “Now they’re taking a much more active interest in retirement income.”
All this still constitutes a small part of a shrinking pie. Sales for all annuity types have been falling in recent years due in part to persistently low interest rates, which determine payouts.
“It’s going to take time for consumers to understand the value of addressing longevity risk,” says Todd Giesing, senior annuity analyst at industry research and consulting group LIMRA. “But we’re hearing from insurance companies that it’s creating a great deal of conversation in the market.”