Retirees, ladder annuities to hedge your bets

Staggering annuity purchases over time can boost your guaranteed retirement income and lower risks.

  • By Mary Kane,
  • Kiplinger
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Handing over a large lump sum to an insurance company in exchange for a stream of guaranteed payments is a hard pill to swallow for many investors. Add in uncertainty about interest rates, which affect annuity payouts, and the decision to buy an immediate annuity becomes more challenging.

A laddering strategy could help ease that decision and potentially boost your guaranteed income. To build a ladder, make smaller immediate-annuity purchases periodically, perhaps every three to five years. You capture higher payouts if interest rates rise. Immediate annuity payout rates are also higher for older investors, so you can capture bigger payouts as you age.

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Here's an infographic guide to annual contribution and tax deduction limits for 2019.

Let’s say you want to use $300,000 to buy guaranteed income. Instead of buying one annuity with that lump sum, you could invest $60,000 per year over a five-year period, starting at age 70. If interest rates rise in that time frame, the new annuities you buy would offer bigger payouts, says Mike Piper, a certified public accountant who is also the author of the Oblivious Investor blog.

You’ll also be locking up less money if you happen to die early. In this example, if you die at age 72, only $180,000 of the $300,000 would be annuitized, leaving a significant sum for your heirs, he says. (Note: You can buy immediate annuities with a death benefit for heirs, though the payouts are lower.)

Adding some annuitized income to a retirement plan could boost a nest egg’s sustainability, according to research commissioned by the life insurer Principal. A couple, age 55, with $100,000 to invest would have a 77% chance of reaching age 95 without depleting all retirement assets using a combination of an income annuity and investments, compared to a 60% chance when using investments alone, the research shows.

Build your annuity ladder

You’ll need to determine the length of your annuity ladder. You might not gain additional income if you stagger purchases over a short time period, such as two years, says Piper. But stretching over a longer period, perhaps 10 or more years, may boost your total payout.

For example, if a 65-year-old woman invests $300,000 in an immediate lifetime annuity with no payouts for beneficiaries, she’ll receive $1,595 a month, according to a recent quote from ImmediateAnnuities.com. Instead, she could start with a $100,000 purchase today for a monthly lifetime payout of $532. At age 70, she buys another $100,000 annuity to add an extra $610 a month. Then at age 75, she spends another $100,000 to add a third annuity payout of $722 a month. Her total monthly annuity payout would be $1,864. (If interest rates rise, that would boost payouts, too.) Payouts are smaller in the first 10 years, but the money intended for the purchases could stay invested.

Ken Nuss, chief executive officer of AnnuityAdvantage, says another way to create an annuity ladder is to use a multi-year guaranteed annuity. That product lets you keep “rolling the ladder” to try to get a higher yield, he says.

Multi-year guaranteed annuities have a fixed rate that is guaranteed for a specific period of time. Interest rates currently range from 3.10% for three-year annuities to 4.30% for 10-year annuities, Nuss says.

To take advantage of the highest rates but avoid locking up a big lump sum in the longest maturity, Nuss says you could split up the lump sum and buy multi-year annuities with staggered maturities. For instance, instead of investing $200,000 in a 10-year annuity, you could put $50,000 each into a three-, five-, seven- and 10-year annuity. Nuss says that would provide an initial blended annual yield of 3.89%, at current rates.

After three years, the first annuity will come up for renewal. You can withdraw the money, recommit those funds for another three years or extend the ladder by choosing a longer maturity. You have the same options, he says, each time another annuity in the ladder comes to the end of its initial guarantee period.

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