Tag: fixed income annuities

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Annuities Deferred Income Annuities Retirement Income Planning

What Tools Does Your Financial Advisor Have in His or Her Toolbox?

Retirement Income Center

I want to wish all of my readers a very Happy New Year! The theme of the last eight blogs, beginning with the November 9th post, Using Fixed Income Annuities to Build Your Income Portfolio Ladder, through last week’s post, The Thrive® Income Distribution System – A Revolutionary Retirement Income Planning System, was creating and optimizing retirement income with fixed income annuities.

To summarize, the strategic implementation of single premium immediate (“SPIA’s”) and deferred income (“DIA’s”) annuities by trained and experienced professionals as part of a comprehensive retirement income plan can be a powerful solution for generating guaranteed (subject to individual insurers’ claims-paying ability), inflation-protected, and tax-efficient income that, when combined with other sources of income, e.g., Social Security, is designed to match a client’s projected retirement income needs.

If you’re within ten years of retiring or if you retired within the last ten years, you may be wondering why your financial advisor hasn’t talked to you about any of the strategies discussed in the last eight blogs. Rest assured, you’re not alone. A 2009 Fidelity study found that 83% of investors between the ages of 55 and 70 who are working with a fee-based adviser believe it’s more important for them to generate guaranteed (subject to individual insurers’ claims paying ability) income for retirement than to deliver above-average returns.

In the same study, 97% said protecting against market volatility is the most critical role that advisors can play today, and 86% said they would be interested in a product with monthly guarantees for life. So why isn’t your financial advisor talking to you about these types of products?

There’s a strong likelihood that if your financial advisor isn’t discussing fixed income annuities with you, he or she probably isn’t licensed and trained to do so. While your financial advisor may be an excellent retirement asset planner, he or she may not be equipped with the necessary tools to design and implement a comprehensive retirement income planning solution for you.

The purchase of annuities as part of a retirement income planning solution involves a technical process that requires the expertise of a trained and experienced professional, in this case, a retirement income planner. As stated in the December 21st post, Designing Your Income Annuity Plan, the design of an income annuity plan is complex and annuities should never be purchased as stand-alone products when used as part of a retirement income planning solution. As evidence of the technical nature and complexity of this area, 18 out of 56, or one-third, of the terms currently in the Glossary of Terms section of Retirement Income Visions™ were added in conjunction with the last eight posts.

As explained in The Retirement Planning Paradigm Shift – Part 2, retirement planning is undergoing a paradigm shift. Instead of relying on retirement asset planning as a solution for both the accumulation and withdrawal phases of retirement, people are beginning to recognize, understand, and appreciate the need for, and value of, employing retirement income planning strategies during the withdrawal phase. The understanding of this paradigm shift is the first step that is necessary for a financial advisor to be successful in the retirement income planning arena.

Once a financial advisor understands the difference between retirement asset vs. retirement income planning, and the importance of using retirement income planning strategies for clients approaching or entering retirement, he or she then must acquire the requisite tools to practice as a retirement income planner if not already possessed. To begin with, in order to sell any type of annuity, an individual must have a valid life/health agent insurance license issued by the state in which he or she would like to sell annuities. As with all professional licenses, there are initial and ongoing educational requirements to obtain, and maintain, an insurance license.

With any profession, while education provides the foundation, experience, in this case, in retirement income planning, including the design and implementation of retirement income planning strategies, is essential. The knowledge and experience obtained from having other related professional licenses and credentials, such as the CERTIFIED FINANCIAL PLANNER™ designation, CPA, or CPA Personal Financial Specialist (PFS), can also prove to be quite valuable in the design and implementation of a retirement income plan.

If you’re within ten years of retiring or if you retired with the last ten years, you may want to take a peek into your financial advisor’s toolbox to see if he or she has the tools to design, implement, and maintain a retirement income plan for you that will provide guaranteed (subject to individual insurers’ claims-paying ability), inflation-protected, and tax-efficient income that, when combined with other sources of income, e.g., Social Security, is designed to match your projected retirement income needs.

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Annuities Deferred Income Annuities Retirement Income Planning

Lifetime Annuity Payout – Watch Out!

Retirement Income Center

Using Fixed Income Annuities to Build Your Income Portfolio Ladder introduced two types of fixed income annuities: single premium immediate annuities, or “SPIAs,” and deferred income annuities, or “DIAs.” As stated in that blog post, while the use of SPIAs is widespread, DIAs are currently offered by only a handful of life insurance companies.

SPIAs and DIAs come in two flavors insofar as the length of time that life insurance companies are on the hook for making payments to you: life annuities and period certain annuities. While SPIAs have traditionally been favored over DIAs, life annuity payment modes have generally been chosen over period certain annuities. This is understandable since most people don’t want to run out of money, with married couples preferring income to last for the remainder of both individuals’ lifetimes.

A life, or joint life, payout, can be a great choice in certain situations, however, if your goal is to create a retirement income plan that provides for different and distinct income streams to match your expense needs associated with different stages of your retirement years, it probably won’t be the best solution. Also, a lifetime payout, due to the open-ended nature of the number of payments, is the most expensive annuitization choice. Finally, unless you purchase an appropriate amount of life insurance in conjunction with the commencement of lifetime annuitization of a fixed annuity, you could potentially lose your entire investment after receiving just one annuity payment.

Let’s take a look at the last situation first since it is potentially the most devastating. Suppose that you are 65 and the value of your fixed income annuity is $250,000 when you decide to annuitize it, choosing a life annuity payment option resulting in a $1,400 per month payment to you for the rest of your life. This seems like a good deal to you since you will be receiving $16,800 a year, or 6.7% of the current value of your investment each year for the rest of your life. After receiving your first electronic deposit (whatever happened to checks?) for $1,400, you die in a car accident. Guess what? Game over. Life insurance company passes go and retains $248,600 ($250,000 – $1,400). Your beneficiaries receive nothing.

The previous example, while it’s certainly possible, is not your typical scenario. What’s more likely to occur is that you will live for a longer period of time, say ten, twenty, or even thirty years, receiving $1,400 each and every month. While it may not end up being such a great deal if you live to 75 since you will receive a total of $168,000, or $82,000 less than the value of your investment of $250,000 when you began receiving payments, if you live twenty or thirty years, you will receive payments totaling $336,000 or $504,000, respectively.

While you may receive payments under a life payout option for an extended period of time that may meet your needs when you retire, this generally won’t be the case after five or ten years due to inflation. Assuming 3% inflation, your $1,400 per month payment will be worth $1,045 in ten years, $775 in twenty years, and $580 in thirty years. Unless your retirement income plan includes another source of income kicking in ten years into your retirement, e.g., a deferred income annuity, or DIA, you may be forced to adjust your lifestyle and/or sell your house in order to cover your expenses.

Finally, when deciding between different payment options, always keep in mind that a lifetime payout is always going to be the most expensive way to go. When you choose this option, and assuming that you are 65 when you begin receiving payments, keep in mind that the life insurance company is potentially liable for making payments for 30, 40, or more years. Due to the open-ended nature of the number of payments combined with increasing life expectancies, the monthly payment that you will receive by choosing a life, or joint life payout, will usually be much less than if you choose a term certain, e.g., twenty years, payout.

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Annuities Deferred Income Annuities Retirement Income Planning

Deferred Income Annuities: The Sizzle in a Retirement Income Plan

Retirement Income Center

The blog post two weeks ago, Using Fixed Income Annuities to Build Your Income Portfolio Ladder, introduced a powerful income laddering strategy using a customized blend of two types of fixed income annuities to create and optimize retirement income. The purpose of the strategy bears repeating since it is the catalyst for this week’s blog. As discussed two weeks ago, this strategy offers retirees the benefit of predictable inflation-adjusted income streams to close projected income gaps as well as generate tax efficiency for the nonretirement portion of one’s portfolio while reducing exposure to the gyrations of the stock market.

The two types of fixed income annuities that are used to implement this strategy are immediate and deferred. Immediate income annuities, or “SPIAs” (the acronym for single premium immediate annuities) was the subject of last week’s blog. I encourage you to read this post if you haven’t done so already. It discussed the unique characteristics and benefits of SPIAs that often position them as the cornerstone of retirement income plans. This week’s blog focuses on the second type of fixed income annuity that is used to create and optimize retirement income – deferred income annuities, or “DIAs.”

As noted in Using Fixed Income Annuities to Build Your Income Portfolio Ladder, while the use of SPIAs is widespread, deferred income annuities, or “DIAs,” are currently offered by only a handful of life insurance companies. These include Hartford Life, Prudential, and Symetra Life Insurance Company.

DIAs are similar to SPIAs since they both pay periodic income for a specified period of time or over one’s lifetime or joint lifetimes as applicable. Unlike SPIAs, however, the start date of the payments for DIAs is deferred for at least 13 months from the date of investment. Whereas SPIAs may be viewed as the steak in a retirement income plan, DIAs are the sizzle.

Why use DIAs in a retirement income plan? As illustrated in Immediate Income Annuities: The Cornerstone of a Successful Retirement Income Plan, an individual SPIA can solve many income needs due to its many unique characteristics and benefits. As pointed out in Is Your Income Portfolio Plan Laddered?, our financial situation and needs will change at different stages of our retirement years. As a result, the primary goal of an income plan should be to generate different and distinct income streams to match our expense needs associated with each stage while also funding periodic one-time needs.

Given this reality, the income from a single investment that makes a fixed payment beginning one month after purchase for either a fixed number of years or for the remainder of one’s life, i.e., a SPIA, while it may, in combination with other income sources, match one’s income needs for the first several years of retirement, generally will not, in and of itself, accomplish this result for the entire duration of most individuals’ retirement. Recognizing this fact, the life insurance industry developed a solution that has all of the wonderful benefits that retirees seek from SPIAs with one big difference: a delayed start date.

As an example of the use of DIAs in a retirement income plan, suppose that you are about to retire, your monthly income need is $6,000, with $2,000 covered by Social Security, and the other $4,000 met by withdrawals from an IRA. The problem is that the value of your IRA account is projected to enable you to take your required monthly withdrawals of $4,000 for only ten years before it is depleted. In addition to your IRA, let’s assume that you also have a nonretirement brokerage account with a value of $700,000. Recognizing your predicament, you invest $500,000 from your brokerage account into one or more DIAs that will begin to pay you $4,000 per month plus an annual increase of 3% for twenty years beginning ten years from today.

In addition to solving a retirement income need that isn’t projected to begin until several years into retirement – ten years in the example – DIAs allow you to take advantage of another often-ignored financial planning strategy: time value of money. If you were to purchase the same income annuity as the one in the example, with a monthly payout of $4,000 with an annual increase of 3% and a twenty-year payout that begins one month from today instead of ten years from today, i.e., a SPIA, in addition to not matching your income needs, you may be required to invest an additional $150,000, or $650,000 from your $700,000 brokerage account.

DIAs are the sizzle in a retirement income plan since you can combine them with SPIAs to design a customized retirement income plan that will enable you to enjoy predictable inflation-adjusted monthly income that, in combination with other source of income, e.g., Social Security, dovetails with your projected income needs for the duration of your retirement while minimizing or eliminating the risks associated with investment in the stock market. I would venture to say that most retirees would be very satisfied with this solution.

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Annuities Retirement Income Planning

Immediate Income Annuities: The Cornerstone of a Successful Retirement Income Plan

Retirement Income Center

Last week’s blog post introduced a powerful income laddering strategy using a customized blend of fixed income annuities to create and optimize retirement income. As discussed, this strategy offers retirees the benefit of predictable inflation-adjusted income streams to close projected income gaps as well as generate tax efficiency for the nonretirement portion of one’s portfolio while reducing exposure to the gyrations of the stock market. Two types of fixed income annuities were introduced: immediate and deferred, with the former being the subject of this week’s blog.

Annuities have a long history, tracing their roots to Roman times. Contracts during the Emperor’s time were known as annua, or “annual stipends” in Latin. Roman citizens made a one-time payment in exchange for a stream of payments for a fixed term or for life.

In 1653, a Neapolitan banker named Lorenzo Tonti developed a system for raising money in France called the tontine whereby individuals purchased shares in exchange for income generated from their investment. As shareholders died, their income was spread among the surviving investors until the last person alive collected all of the remaining benefits. Although the use of tontines spread to Britain and the United States to finance public works projects, it was eventually banned since it created an incentive for investors to eliminate their fellow investors in order to obtain a larger payout.

Private sector annuities have been available in the United States for over two centuries. In 1759, Pennsylvania charted a company to provide survivorship annuities for families of ministers. In 1912, The Pennsylvania Company for Insurance on Lives and Granting Annuities was founded and became the first American company to offer annuities to the general public.

The earliest commercial annuities became the predecessor for immediate income annuities, otherwise known as single premium income annuities, or “SPIAs,” that are in widespread use today.

Immediate income annuities, or SPIAs, are distinguished from deferred income annuities, or DIAs, based on the timing of commencement of payments from the insurance company to the annuitant. “Immediate” is somewhat of a misnomer since the payments don’t begin immediately after investment in an annuity contract. Most annuity investors choose a monthly payout and therefore receive their first payment from a SPIA one month after purchase. Initial payments will be delayed for one quarter, six months, or a year when quarterly, semi-annual, and annual payout modes, respectively, are elected.

While a customized blend of SPIAs when used in conjunction with deferred income annuities, or DIAs, can be an ideal retirement income laddering strategy, an individual SPIA can solve many income needs. As such, it’s often used as the cornerstone of retirement income plans. SPIAs’ unique characteristics and benefits are very appealing to retirees since they include the following, several of which also apply to DIAs:

  1. Immediate, predictable, guaranteed income (subject to individual insurers’ claims-paying ability), often for life, beginning at retirement
  2. Protection against outliving assets
  3. Flexible choices of payment plans to meet one’s needs
  4. Choice of frequency of payments
  5. Reduction of income tax liability through tax-favored status in nonretirement accounts, potential reduction of taxable Social Security benefits, and reduction of required minimum distributions (RMDs) in retirement accounts
  6. Reduced exposure to fluctuation of the stock market to the extent that funds used to purchase SPIAs were previously invested in the market
  7. Reduced dependence on ongoing investment management and associated reduction of investment management fees to the extent that funds used to purchase SPIAs were previously professionally managed

As a tradeoff for the foregoing seven benefits, it must be kept in mind that the purchase of all annuity contracts, including SPIAs, is usually an irrevocable action. Once an annuity has been purchased, the owner doesn’t have the right to terminate the contract and request a refund without incurring a substantial penalty. In addition, depending upon how the payout is structured, it could last for many years, potentially over the lifetimes of two or more individuals.

Immediate income annuities, when properly customized for a particular financial situation, can result in reduced financial worries and an associated positive retirement experience. While they can be an effective cornerstone for many retirement income plans, however, they usually aren’t a total solution for creating and optimizing retirement income.

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Annuities Deferred Income Annuities Retirement Income Planning

Using Fixed Income Annuities to Build Your Income Portfolio Ladder

Retirement Income Center

The previous two blog posts introduced the income portfolio plan strategy and the importance of designing laddered income streams to fund a retirement income plan. If you haven’t read these two posts yet, I would recommend that you do so before reading this one. This post introduces a powerful income laddering strategy that can be used to create and optimize your retirement income.

As stated in last week’s post, due to the fact that our financial situation and needs will change at different stages of our retirement years, a retirement income plan must provide for different and distinct income streams to match our expense needs associated with each stage. One of the most efficient ways to do this is through the use of a customized blend of fixed income annuities. Before discussing this technique, let’s first review some basics of annuity investing for those of you who may not be familiar with this often misunderstood type of investment.

Annuities are offered by life insurance companies through a contractual relationship between the insurance company and the owner of an annuity contract. A distinguishing feature of annuities from other types of investments is “annuitization,” or the ability to convert the annuity to an irrevocable structured payment plan with a specified payout by the insurance company to an individual(s), or “annuitant(s)” over a specified period of time through different lifetime and term certain options offered by the insurance company.

Unlike most non-retirement vehicles that have ongoing income tax consequences associated with them while you own them, a basic distinction between annuities and other types of investments is that annuities offer the tax-deferred advantages of retirement assets such as 401(k) plans and IRA’s without several of the negative tax consequences associated with the latter.

There are two basic types of annuities, both offered by life insurance companies: fixed and variable. Fixed annuities are similar to CD’s since they have a fixed, pre-defined term and interest rate and don’t fluctuate in value. Unlike CD’s which are offered by banks and are insured up to FDIC limits, fixed annuities guarantee principal subject to the claims-paying ability of individual insurance companies. Variable annuities, on the other hand, are invested in equity investments, such as mutual funds, and as such, fluctuate in value and have greater risk associated with them.

When annuities are annuitized, they are referred to as “income annuities.” Unlike any other income planning strategy, in addition to closing projected income gaps, fixed income annuities can be structured to provide predictable inflation-adjusted income streams as well as tax efficiency for the nonretirement portion of one’s portfolio. Two types of fixed ncome annuities that will be the subject of, and will be discussed in more detail in, the next two blog posts can, and generally should, be used: immediate and deferred.

Single premium immediate annuities, or “SPIAs,” make periodic payments, typically monthly, for a specified number of months or for an individual’s lifetime or joint lifetimes as applicable. The payments generally begin one month after purchase of a SPIA, hence the term “immediate.”

While the use of SPIAs is widespread, deferred income annuities, or “DIAs,” are currently offered by only a handful of life insurance companies. Like SPIAs, DIAs pay periodic income for a specified period of time or over one’s lifetime or joint lifetimes as applicable. Unlike SPIAs, however, the start date of the payments for DIAs is deferred for at least 13 months from the date of investment.

The power of the use of a customized blend of fixed income annuities, including their preference as a retirement income planning solution, will become apparent in future blog posts. Suffice it to say, this is definitely the way of the future for many retirees to benefit from predictable inflation-adjusted income streams to close projected income gaps as well as generate tax efficiency for the nonretirement portion of one’s portfolio while reducing exposure to the gyrations of the stock market.