Should Annuities Be a Part of Your Balanced Retirement Portfolio?
If you’re afraid of outliving your retirement assets, you aren’t alone. In fact, the fear of outliving one’s retirement income is actually greater than the fear of dying. Further, while the vast majority of “baby boomers” view retirement as a crisis, few understand how much money they’ll need to retire. That’s a scary thought when you consider over 10,000 baby boomers are retiring every day. (Source: “Outliving Your Money Feared More Than Death,” Allianz Life Insurance Company of North America, June 17, 2010, last accessed December 21, 2012.)
When Social Security was first introduced in 1965, the typical retiree only lived a few years past their retirement date. Today, the average retiree can expect to live well into their 70s.
The increased life expectancy has put the once-adequate retirement income system under increased stress. And, as a result, retirees can no longer expect Social Security to make up a majority of their income. To enter the golden years in style, retirees will have to find creative ways to increase their investments.
Having witnessed market uncertainty and turmoil over the past five years, many baby boomers are looking for investments that offer both stability and security. Putting part of your retirement fund nest egg into annuities is a great way to increase the value of your portfolio.
Annuities are not like conventional securities. Some annuities provide set monthly checks for life and are independent of the ups and downs of the stock market. Whether you are talking about annuities or your overall investment strategy, having unrelated assets is key to managing risk.
What is an annuity? An annuity is a way of creating a long-term income stream. As an investor, you give money to an insurance company that, in turn, agrees to provide you with income at a future date. In addition, the annuity holder will be guaranteed a minimum amount of interest in the account. The funds also grow on a tax-deferred basis.
The two most common income streams are immediate annuities and deferred annuities.
Immediate annuities are not all that dissimilar to a life insurance policy. Instead of making regular payments to an insurer that makes a lump-sum payment at the time of death, an immediate annuity begins to payout regular monthly payments, usually 30 days after you start to contribute to the annuity. This is only possible because immediate annuities are usually initiated with a large sum of money.
Immediate annuities are placed in less risky investments; the returns might be lower, but the security is greater.
Immediate annuities do not have to be all that immediate, either. You can set the payments for an immediate annuity for specific periods of time, 10, 20, or 30 years down the road.
For income protection later in life, immediate annuities that pay out in your 80s are perfect for long-term income protection. The payouts for these types of annuities tend to be bigger than for annuities that start payouts earlier. For some, waiting until their 80s to collect on an immediate annuity is too much of a gamble.
That said, immediate annuities are not meant for someone saving towards retirement or someone without a significant amount of money to start a fund.
A deferred annuity works much differently than an immediate annuity. A deferred annuity is meant to be paid out in the future. The early period of a deferred annuity is the accumulation period when funds are deposited with the annuity company, which, in turn, invests those funds. After the accumulation period ends, the payouts begin.
Hopefully, the money during the accumulation period was wisely invested and the principle increased significantly. But, even there, you have some control over market risks.
A regular deferred annuity invests your money in steady, low-risk investments that have a high probability of guaranteed returns.
With a variable deferred annuity, your money is invested in a variety of medium- to high-risk equities; where the chance for greater returns comes with increased risk. That said, even with variable deferred annuities, there is a minimum guaranteed payout.
While there are no easy answers to retiring in comfort, investors do have retirement options that can help increase income and reduce market risk. One way of protecting income for life is to use immediate and/or deferred annuities in conjunction with pensions and Social Security.