Income to Count On
By Daniel Kadlec
2006
Even if you've beefed up personal savings in recent years, you're probably not ready to retire until you have bought an immediate-fixed annuity, an insurance contract that will pay you a set amount monthly for the rest of your life. With interest rates up, the guaranteed income you can lock in now appears generous.
Why do you need an immediate-fixed annuity? Traditional pensions are disappearing, and Social Security is on wobbly ground. Those two onetime pillars of retirement finance used to give many retirees enough secure monthly income to cover most of their critical living expenses. But now we have 401(k)s, IRAs and other tax-favored savings accounts, with nothing guaranteed. The onus is on you to manage distributions in a way that you will not run out of money.
That's a tall order for most folks. To make it easier, Congress is considering several bills that would cut the tax rate on annuity payments. The hope is that more people would then buy an immediate annuity to replace or supplement eroding income from traditional pensions and Social Security. "If you want the absolute assurance of income for life, there is no alternative," says John Olsen, principal at Olsen Financial Group in St. Louis, Mo.
Income annuities should not be confused with variable annuities. Variable annuities let you save tax deferred through standard mutual funds and may offer certain guarantees (like a minimum return). But they often have high expenses and commissions. Immediate-fixed annuities are simple, low-cost products that let you plunk down a pot of money and get a secure monthly income for life (or some other designated period).
A 65-year-old man who pays $100,000 to Fidelity & Guaranty, in Baltimore, Md., today would lock in guaranteed monthly payments of $692 for life, according to annuityshopper.com That's up from $648 a month just a year ago, reflecting today's higher interest rates and pointing up why now may be a good time to secure this kind of fixed income. If rates move lower, as they probably will with the economy slowing, income annuities bought, say, next year would offer smaller fixed monthly payments.
If you have ample assets or can easily live off your bond, rental or other income or your stock dividends without selling the underlying assets, you may not need an income annuity, which is really just insurance that you will never run out of money. If you don't need it, don't pay for it. If you buy an immediate annuity and die soon after, you will have given an insurance company what could have gone to your heirs.
You can protect against that worst-case outcome. By accepting a lower monthly sum, you get an annuity that guarantees payment to your estate--say, $665 a month for 10 years or $603 for 20 years, in the example above. You can and should buy an income annuity that also builds in inflation increases and continues until the death of a surviving spouse.
The biggest knock on income annuities is that once you've forked over a pile of cash, it's gone forever. So don't spend all your savings on one; 25% is a good target. In some cases, you can recover all or part of what you paid for an annuity. J.G. Wentworth, based in Bryn Mawr, Pa., offers a lump sum to take over your income stream. If you bought an annuity for $100,000 and changed your mind the next day, you could get back about $95,000. "Our typical customer has unexpected medical bills or some other sudden need for money," says Michael Vaughan, managing director at Wentworth.
One helpful rule: "The older I get, the more I'm willing to buy an annuity," says Michael Schulman, an accountant with Excelsior Senior Advisers in New York. With fewer years to live, you have higher monthly payments. An income annuity bought at age 75 or 80 might generate more monthly cash than you could get anywhere else. Your heirs might squirm. But you will sleep better knowing you have plenty of income and it will never run out.
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* www.time.com/time/magazine/article/0,9171,1226152,00.html
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How Safe are Fixed Annuities |
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Although Annuities are not FDIC Insured there are still many layers of protection and insurance to safeguard your money. Just as we do not worry about our car insurance paying a claim or our homeowners insurance paying out when our house burns down there is no reason to worry about Insurance companies paying you back your money from a fixed annuity. Let's first examine the similarities between a CD that you would purchase at a bank and a fixed annuity that you would purchase through Annuity Rate Shopper.
A CD that is issued by the bank is backed by the issuing bank. Should the bank fail or become unable to repay you your money the Federal government will step in and use money from the FDIC to make you whole (up to certain dollar amounts). FDIC is "Insurance" from the federal government. Being that it is insurance every participating bank must pay a premium to be a part of it. It is that money that is designed to make people sleep well at night knowing that their money will be there in the morning.
A Fixed annuity on the other hand is issued by an insurance company. In California for example, should the insurance company fail to repay you what they owe, the California Insurance Guarantee Association (CIGA) is there to back up the insurance company and provide the same piece of mind as the FDIC. The CIGA is set up by the state of California where all insurance companies that do business in the state are forced to pay a premium each year to the CIGA.
I often remind people that we pay insurance premiums every month for just about everything we owe; our health, our lives, our homes, our cars, our boats, our tools and even our pets. What is interesting to me is people don't worry about getting repaid if their house burns down, they don't worry about their insurance company not being able to come up with the money to pay a claim if they get into an accident. And why should they? They are paying insurance premiums every month and for that they expect to get repaid and they should.
Purchasing a fixed annuity is no different. CD's are offered by banks and Annuities are offered by insurance companies. To be honest sometimes I question who is more financially stable, the federal government with huge budget deficits or an insurance company that turns a profit year in and year out.
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