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Sep 13, 2018

The Evolution of Retirement Annuities

By Heather Kelly

Photo credit: Getty Images

On January 11, 2011, 10,000 Baby Boomers turned 65 and every day, for the next 20 years, 10,000 more Boomers will join them. The onset of this generation reaching retirement age has given rise to real concerns about how they will fund their retirement.

In a study conducted by the Insurance Retirement Institute and Cerulli Associates, the following facts emerged:

  1. Only 25% of Boomers are confident their savings will last throughout retirement.
  2. 41% rate monthly guaranteed income as the most important single trait in a retirement investment, ranking that No. 1 or No. 2 in importance.
  3. 66% believe it is very important for retirement income to be guaranteed for life; yet only 14% plan to purchase an annuity with a portion of their 401(k) or IRA.
  4. 79% who have a relationship with a financial professional have at least $100,000 saved for retirement versus only 48% of those who do not work with a financial professional.
  5. 84% of Boomers with financial advisors have had income from an annuity included in their financial plan (43%) or their advisor has discussed with them using annuities for retirement income (41%).

There are good reasons for their concerns. Prior generations typically had pensions they could count on that, in addition to Social Security, would provide them with guaranteed income in retirement. Except for rare exceptions, pensions have all but disappeared. Also, though Social Security seems relatively stable for the moment, there are persistent hue and cries emanating from the government about its solvency or the need for reform.

Clearly, from the study cited above, a large percentage of retirees are interested in receiving guaranteed monthly income for life. And yet, when the word “annuity” is mentioned to them, their interest is diminished. According to a 2018 study from Cannex about Guaranteed Lifetime Income, 73% of respondents considered guaranteed income to be a highly-valuable addition to Social Security. However, when the word “annuity” was used, 32% expressed lower interest in the product.

There are legitimate reasons for that. In the past, it’s true that some advisers in the insurance industry oversold annuity products, resulting in an over-concentration in some clients’ portfolios. Commissions were very high on these products and advisers benefited handsomely from selling them. Plus, many annuities had hefty fees associated with them, which necessitated stellar market performance year after year in order to gain from them.

However, due to a confluence of various market forces, the annuity sector has evolved significantly in recent years. There are a lot more options available and many of them have substantially reduced costs. Plus, for those people who are interested in securing guaranteed income for life, there aren’t a lot of choices available. For these reasons, I think it’s time to reconsider annuity products and to consult with advisers to determine how they might fit into a client’s investment plan.

In general, it is probably prudent to have no more than 20% of one’s assets invested in annuity products; the theory being that one shouldn’t rely on annuities to cover a preponderance of their income needs. Rather, retirees should consider annuities to be a foundation, another means to generate income to cover core critical expenses.

Additionally, annuities are a way for investors to establish the peace of mind they are seeking with guaranteed income while, at the same time, they are still invested in the market, with the potential to reap market gains. Of course, any gains would help to mitigate the effects of inflation and help to cover the costs of assorted niceties – in short, helping retirees to lead the kind of comfortable life they imagine for themselves in retirement.

Another factor to consider about annuities is that they provide some protection against longevity risk. It is a fact that people are living longer and there is a legitimate concern that retirees might outlive their investment portfolios. This is especially true if people are drawing on their investments to support themselves during a significant down turn in the market. The “guaranteed income for life” aspect of annuities provides retirees with the stability and security they seek.

Annuities aren’t for everyone but I do believe that given all the improvements in the mix of available products, along with a reduction in costs, it is worth giving annuities another look. Clients should review their investment plan holistically and, in consultation with their financial adviser, decide whether there is a useful place for annuities in it.

The guarantee of the annuity is backed by the claims paying ability of the issuing insurance company. Although it is possible to have guaranteed income for life with a fixed annuity, there is no assurance that this income will keep up with inflation. There is a surrender charge imposed generally during the first 5 to 7 years or during the rate guarantee period. There is a surrender charge imposed generally during the first 5 to 7 years that you own the contract. Withdrawals prior to age 59 ½ may result in a 10% IRS tax penalty, in addition to any ordinary income tax. The guarantee of the annuity is backed by the financial strength of the underlying insurance company. Investment sub-account values will fluctuate with changes in market conditions. Investors should consider the investment objectives, risks and charges and expenses of the variable annuity carefully before investing. An investment in a variable annuity involves investment risk, including possible loss of principal. Variable annuities are designed for long-term investing. The contract, when redeemed, may be worth more or less than the total amount invested. Variable annuities are subject to insurance-related charges including mortality and expense charges, administrative fees, and the expenses associated with the underlying sub-accounts. The prospectus contains this and other information about the variable annuity. Contact Heather Kelly at 125 John Carpenter Freeway, Suite 1200, Irving TX 75062 or 972.822.2097 to obtain a prospectus, which should be read carefully before investing or sending money.

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