Why annuities may be needed for an addition to social security benefit and other retirement income.
We’ve heard the good, the bad and the ugly when it comes to the national outcry over the slogan “Make America Great Again.”
It doesn’t matter what your political affiliation is; the slogan polarizes the country. It provokes emotions from anger to elation, from love to hate. Yet it’s also a noble message. Why wouldn’t we want to make America great or even greater?
Q4 2019 hedge fund letters, conferences and more
As I reflected on the state of the nation with this messaging, it occurred to me that the financial industry has a similar love/hate relationship with annuities. And, when we dig deep into the reasons for the polarized perspectives, whether regarding our nation or annuities, we realize there is a lot of misinformation, and sometimes a deliberate effort to mislead someone toward one persuasion or another.
So, I’m going to focus on Making Annuities Great Again. Why?
Because the very financial tool that could save someone’s retirement journey so that they have income for life is the very tool that many hate. Yet when asked, they don’t know why they hate it. They just do. Maybe it’s because they read some financial propaganda. Maybe they heard a financial guru declaring his or her own hatred for annuities. Or maybe they believe annuities are high in fees, or that the insurance company keeps your money.
I’d like to clear the air and share the good news about annuities.
A recent survey by the Alliance for Lifetime Income found that 80% of Americans say they fear running out of money in retirement. As a financial planner who specializes in income planning for pre-retirees and retirees, my professional experience validates that this is the primary reason individuals and families request an income-distribution plan.
Let’s think about this for a bit. As an example, I will use a couple named Frank and Sue. Frank is 66 years old and is collecting a monthly Social Security benefit of $2,400. He’s married to Sue, age 67. Sue’s Social Security benefit is $1,600 monthly, so the combined fixed income is $4,000 gross. So far, so good. But the couple’s Medicare premiums come out of the Social Security benefits (assume the combined cost for Part B and D is $360), so the net to Frank and Sue is $3,640.
The case for annuities
They don’t have any pension or any other income source. They have saved $500,000 in IRAs for retirement and they need $5,500 monthly to live on. Without taking into consideration taxes, their income shortfall is $1,860. So, if their savings grew at 5% per year, and inflation averaged 3%, the income gap would come out of their IRA savings, potentially increasing taxes on their Social Security benefit. They would likely run out of money around the time Frank is 88 and Sue is 89, and that is only if there were no market correction over the next two decades, and they both lived to continue collecting both Social Security benefits.
What would happen if they had lost income and the money to make up for it had to come out of an investment portfolio? Or what if one of them needed long-term care due to a debilitating illness? They would be in trouble.
That’s where you have to shift your mindset about annuities. Annuities are nothing more than financial tools that provide guaranteed income streams and give you predictable income – for life. They can literally save someone’s retirement.
Are all annuities created equal? Absolutely not and buyer beware. But that said, your pension is an annuity and so is Social Security.
If that’s the case, how can annuities be bad? What makes them bad is if they are sold without proper financial planning. Before you buy an annuity, you need to understand first whether you need one to accomplish your retirement income goals, and second, if you do need one, which one. There are thousands sold by hundreds of insurance companies. The one that is right for you needs to be based on a plan – your plan!
Here’s a tutorial of what you should understand so you can make annuities great again:
- There are four breeds of annuities: immediate annuities, fixed annuities, fixed-indexed annuities, and variable annuities. What’s right for you may not be right for your neighbor or your brother, sister or friend.
- There are the vanilla annuities and there are the Bresler’s 33 Flavors annuities. The benefits and features inside annuity contracts need to be aligned to your retirement needs. You want full disclosure of what’s included in the contract and you need to have someone speak your language – not the language of a financial salesperson or even the language of the insurance company. Dig deeply and translate the contract language into language you understand.
- There are fees inside various annuities. Sometimes those fees are for riders you might need to add. But there also are fees hidden in the investments that are held inside the annuity contract. For example, you often find that situation in variable annuities, which tend to be the annuity contracts with the highest fees. Make sure you get a full disclosure of the fees and determine whether they are right for you. A fee isn’t bad if it brings you value. Just make sure there’s a benefit for the fee you pay. And be aware that many of the solid retirement income annuities don’t have fees in them.
- Annuities typically are not growth tools – they are really income-protection tools. Yes, variable annuities do allow for growth, though at a higher price. But if you want growth, instead of annuities, put your money in the market, select your own investments, and keep investment costs at a minimum. You put money in an annuity contract to get guarantees – like principal protection, creditor protection, lifetime income, etc.
- Annuities are excellent tools to protect against lost income and provide guarantees for income gaps between fixed sources of income like pensions and Social Security. They can keep you from running out of money before you run out of time on earth. Essentially an annuity is a type of self-directed pension. Only 24% of future retirees have a defined-benefit pension, so an annuity can be considered as an appropriate tool for income planning.
- Many annuity contracts have added benefits and features that can be included, such as death benefits, additional income should you need long-term care, legacy optimizing benefits, nursing home or terminal illness confinement benefits, and other benefits.
With the death of the American pension, there’s only one way to make up for the savings crisis and income crisis with today’s retirees: Make Annuities Great Again! Learn about the role an annuity could play in your retirement. After all, in retirement it’s not how much money you have. It’s how much money you can keep to convert to lifestyle income once you consider your income gaps, your taxes, inflation, and protecting your savings from inordinate market risk.