Lock in a Lifetime of Income

Tough times in the markets are renewing interest in an old, reliable investment for retirement: immediate annuities.

These insurance products convert your cash into a stream of income that can be guaranteed to last the rest of your life. With many retirees staring at double-digit losses on their portfolios, that kind of reassurance is attractive.

Unlike some annuities that are complicated and expensive, immediate annuities are usually fairly straightforward. However, comparison shopping among insurers is essential because their payouts vary.

An immediate annuity can function just like a pension, producing a predictable payout. As the "immediate" part of the name suggests, the distributions start shortly after the money is invested. The trade-off with an annuity is that in exchange for that guaranteed payout, an investor gives up control of the money.

Payouts largely depend on an investor's age -- the older the investor, the bigger the checks -- and on the level of interest rates. These annuities are worth considering for retirees who tap their portfolios to pay day-to-day expenses and stand a chance of using up their savings.

'Shifting the Risk'

"You're shifting the risk that you'll outlive your money over to the insurance company," says Scott Stolz of Raymond James Financial.

If you're relying on your portfolio for living expenses, financial planners typically suggest withdrawing no more than 4% a year, to limit the risk of outliving your funds; in contrast, with an annuity, you'll get a bigger starting payout.

For example, an immediate annuity offered by Vanguard Group would convert a $100,000 investment from a 65-year old couple in Pennsylvania into $604.69 a month for life. (This policy comes with 100% joint survivorship, which means that when one spouse dies, the survivor continues to receive the full payout. It's possible to get higher payouts for a lower survivor percentage.)

How much to annuitize?

One strategy is to get a big enough check to cover essential expenses. Mr. Stolz suggests waiting a year or so into retirement to be sure of how much money is needed on a continuing basis.

One problem with getting a fixed payout from an immediate annuity is that over the two or three decades that a retiree may live, inflation can eat into the value of that money. It takes more than $1,700 to buy today what it cost $1,000 to buy in 1989.

Inflation Protection

You can insure against that erosion of spending power by using an annuity that adjusts to inflation. This feature comes with a cost, however. The same Vanguard annuity with an inflation-adjustment rider pays out $151 less per month initially, $453.49.

That may sound like a big difference, but inflation could more than reverse that gap over the course of retirement. If the consumer-price index rises 3% a year, the monthly payout on that inflation-adjusted annuity would hit $609 in 10 years -- matching the quote on the non-inflation-adjusted annuity -- and reach $818 in 20 years.

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Paula Hogan, a financial adviser in Milwaukee, notes that the current environment, in which the inflation rate is declining, raises an additional issue: Some inflation-adjusted annuities, such as Vanguard's, can lower payments if consumer prices fall and then increase them again if prices subsequently rise.

Add Annuities Over Time

As an alternative way to contend with the inflation challenge, Ms. Hogan recommends some clients annuitize portions of their portfolio over time. That allows them to increase their income stream as needed, as well as to diversify among different insurers.

How much do payouts vary among insurers? A recent sampling of eight major insurers done for Encore by Hueler Cos. -- a firm that has an online annuity quote service for advisers -- found a difference of $108 between the highest and lowest payouts on a $100,000 annuity for a 65-year-old couple.

"I can ask 10 companies for the same exact type of annuity and get 10 different quotes," says Kelli Hueler, chief executive of the firm.

Source: online.wsj.com - 03-29-2009