The biggest worry about retirement boils down to this – will I outlive my savings? As lifespans increase, building and managing a nest egg that can sustain a long life can be an overwhelming task.
A recent TIAA-CREF survey found that running out of money was the principal concern (45%) for individuals nearing retirement.
To help alleviate this concern, financial advisors often suggest annuities as a way to maintain a stable stream of income during retirement. A specific type of annuity – referred to as a deferred income annuity (DIA) or longevity annuity – has grown in popularity as baby boomers are challenged with making assets last in the face of higher life expectancies.
How Do Longevity Annuities Work?
Like an immediate annuity, deferred-income annuities allow purchasers to convert a lump sum into a pension-like stream of income for life. The delayed start of income payments—until age 80 or 85— can offer retirees a relatively low-cost way to purchase, at age 60 or 65, a guaranteed income stream that provides security in later years.
While longevity annuities aren’t new, a new law makes them accessible to 401(k) s and other employer-sponsored individual retirement account plans by amending the required minimum distribution (RMD) regulations.
Under the new rules, participants in 401(k) plans can move 25 percent of account assets, or a maximum of $125,000, into a longevity contract. Money that goes into the contracts is exempt from required minimum distribution rules that kick in at age 70½.
Pros and Cons of Longevity Annuities
The benefit of a longevity annuity is that it reduces your tax liability and it gives you the choice to spend down your nest egg, knowing you’ve secured an income stream for your later years.
As enticing as those payouts may be, longevity annuities have their drawbacks. A basic longevity policy offers no out for you to retrieve your money during the 20 years or so you’re waiting for benefits to start. And unless you purchase a death benefit, your heirs won’t collect if you die before payments take effect.
ThinkAdvisor.com cautions that depending upon the future rate of inflation, the value of those payouts could decrease, especially given the potentially extended deferral period.
Investors have the option to pay for added features, like a death benefit to be paid to your heirs, early payment options, inflation protection and more. The downside, however, is that every extra feature you add will reduce your monthly benefit.
Should You Insure?
Greg McBride, chief financial analyst with Bankrate.com, says that while the growth potential of longevity annuities will be significant in years to come, they aren’t for everyone.
“This isn’t a product that works for people with very few assets, nor is it a product that works well for people with a lot of assets. It’s ideal for people in the middle.”
McBride says, “Retirees that are short on assets can ill afford to siphon off a segment of their portfolio for future needs as they need every bit of that portfolio to generate income in the meantime. And those with a surplus of assets likely place a higher priority on estate planning once future income needs are assured.”
If you’re deciding whether longevity annuities belong in your retirement plan – it’s important to weigh how much income to insure, when to start the income, and other features. It’s recommended that you work with a qualified financial planner to determine the best fit for your needs.