How to Make Retirement Savings Last a Lifetime

Lifetime income annuities provide the best means to ensure against outliving one’s assets in retirement, according to a study from research fellows at the Wharton Financial Institutions Center. The study, “Investing Your Lump Sum at Retirement,” states that a “perfect storm” of influences, along with improvements insurers have made in annuity products, combine to make life annuities the best investment vehicle for ensuring a pre-retirement standard of living through one’s entire retired life-and not just one’s remaining life expectancy. According to the study, it would cost a retiree 25% to 40% more money to replicate the advantages of a life annuity through other means, such as investing the annuity deposit in a mutual fund or certificate of deposit.

The perfect storm referred to consists of decreasing levels and importance of social security (with the sheer number of baby boomers heading into retirement and dwindling numbers of younger workers to support the system adding further strain), reduced reliance on defined benefit pensions and increased longevity. Basically, due to these factors, individuals entering retirement can no longer count on social security and a pension to meet their needs. Furthermore, most also cannot rely on a retirement investment account to last throughout the rest of their lives. “Expected” life spans are just that, the study notes, and half of those reaching age 65 will outlive their “expected” remaining years. Add to this uncertainty the fluctuating rates of return on most investments, and it’s simply hard to know how much is enough. According to the study, people who put their retirement wealth in mutual funds, money market accounts or some combination of these have higher risk, often higher expenses, and returns that are unlikely to keep pace with annuity returns.

Annuities have improved in recent years to make them more attractive. The study points out several things to consider about today’s life annuity products:

• Life annuity products offer flexible optional features. Some will increase the monthly payments at a specific later age, such as when the annuitant may need to finance the cost of institutional care or high medical expenses. Some allow for the withdrawal of an advance on future payments to pay for large, unexpected expenses.

• Life annuities with inflation protection are available. An annuitant can opt for a set increase per year, or link the amount of the increase to an inflation index.

The researchers recommend that retirees cover at least their basic living expenses with a life annuity. Beyond that, the optimal level of income will vary person to person, depending on the amount of wealth at retirement, level of social security benefits, presence of any pension income, marital status, tolerance for risk, desire to leave an inheritance, and current interest rates and market risk levels. Each retiree should examine all of these factors, and decide what level of annuity will provide for a comfortable, assured stream of income through all of the retirement years.

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