Bonds or Lifetime Annuities?

Written by Hersh Stern Updated Saturday, December 14, 2024

My clients often ask me to compare the benefits of an immediate or deferred income annuity to a long-term bond when it comes to their retirement planning. This is understandable, since a bond seems to sidestep several common objections to annuities.

For example, you may be reluctant to give up control over that portion of your savings that would go to the purchase of the annuity. Plus annuities are often considered inflexible, with a rate of return that is fixed, even in a bull market. These attributes make a bond seem more appealing – at least at first blush.

Nevertheless, many economists and financial advisors believe a lifetime annuity should make up at least a portion of an individual’s retirement plan.

Why? Because a lifetime annuity forms the bedrock of a strong retirement plan.

This is a result of the annuity's unique ability to guarantee the income for your lifetime, essentially transferring to the insurance company the risk that you might outlive your savings.

So while it is undeniable that a long-term bond avoids some of the typical objections to a life annuity, it does so by risking retirement income security. A bond simply cannot beat an immediate or deferred income annuity on this basic but very important quality. I'll explain why...

Can a Bond Guarantee Income for Life?

Let’s compare owning a 30-year Treasury bond to an immediate annuity.

Imagine you purchased a $100,000 T-bond and spent your annual interest plus a small portion of your bond’s face value each year in order to generate an annual retirement income equal to the annuity’s payout. For how long could you do this?

Well, at the end of 30 years, your 30-year bond would have been fully distributed. So, for a 65-year-old the bond would last to age 95. If you think you don’t have much risk of living past 95, the 30-year Treasury bond alternative to an immediate annuity looks feasible.

However, this picture changes dramatically, if at any time during the 30 years, interest rates begin to rise and continue rising until your bond matures.

If that happens, then as the rates increase, the face value of your bond will fall, so you will have to sell off each year more and more of your bond principal in order to generate the same annual income as you had in the prior year. In this scenario, it's quite likely your bond and its income would only last for 15 to 20 years, not for your lifetime!

The bottom line is you can't really duplicate the safety and certainty of an immediate annuity’s guaranteed income by buying a bond. For that security you’ll need to give up some flexibility and control over your premium plus the potential of leaving a legacy to your beneficiaries.

What’s Next?

When I speak with my retirement-age clients about lifetime annuities, we usually discuss two important goals:

1. To be able to sleep well at night, without concerns about depleting their nest egg.

2. To continue to have the lifestyle they worked hard to achieve and deserve. Vacations, special time with friends and family, and the freedom to live well – all of this should be worry free.