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How to feel financially secure in retirement

Key takeaways

  • An income annuity may help cover essential expenses in retirement that aren’t already met by Social Security or pensions.
  • Fully covering essential expenses with lifetime guaranteed income sources can provide peace of mind that you’ll never outlive your money, no matter how long you live.
  • Annuities can also be simpler to manage and help provide greater protection against elder fraud and abuse than can an investment portfolio alone.

Many people have a long list of “wants” for their retirement—whether traveling the world, making happy memories with the grandkids, or finally writing that memoir. But most of us have only one nonnegotiable “need”: not to run out of money in our lifetimes.

Our sunset years can be a time of increased vulnerability, when we need more care and support. None of us wants to magnify that vulnerability by becoming financially dependent as we age.

While Social Security and pensions (for some) can help provide a degree of certainty of lifetime income, for many people these sources simply don’t come close to fully meeting basic living expenses.

This is the key gap that an annuity may be well-suited to fill. A lifetime income annuity, which may also be known as a traditional annuity, can act as your personal pension by providing a guaranteed income stream for as long as you live. The basic premise of these products is simple: You pay a lump sum of money to an insurance company, and in exchange the insurer pays you a regular (typically monthly) stream of income for the rest of your life, as if you were receiving a pension.1

As with any financial product or investment, a lifetime income annuity comes with tradeoffs to understand. But these types of annuities can have the potential to provide peace of mind and ease of management that few other investments can match. Here are some of the unique benefits and features they can provide.

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1. Income that never runs out

While the prospect of a shorter-than-expected lifespan might be met with a deeper sadness, a longer-than-expected lifespan poses the greater risk to your retirement plan. If you’re drawing on a pot of investment accounts to meet living expenses in retirement, you may have little choice but to try to guesstimate your lifespan and adjust your withdrawals accordingly.

An annuity can help relieve not just the risk of outliving your money but also the stress of worrying that you might outlive your money, thanks to the knowledge that you'll have consistent guaranteed cash flow no matter how long you live. With guaranteed income for life, you can celebrate the possibility of living to 100, rather than fret over who will pay for it if you do.

2. An easy, predictable paycheck

Even if you’re savvy with your finances, it can be complex to rely on an investment portfolio to meet living expenses. Some retirees may only feel comfortable spending dividend and interest income from their portfolio. But these amounts may be insufficient, and this approach still leaves you facing many decisions on choosing investments and making periodic reinvestments. 

Yet you may face even more headaches if you have to regularly draw down principal from your portfolio. In that case you have to decide which positions to trim and by how much, plus stay on top of rebalancing as you’re making these transactions. Finally, even if these decisions are manageable in your 60s, you may feel less comfortable making them in your 80s or 90s.

If you cover your basic expenses with an annuity, then many of those management decisions can simply float away. You tell the insurance company what bank account to deposit your payments into, and the money shows up every month—as easy as those days when you earned a paycheck.

3. Income no matter what the markets do

Even professionals can’t predict with any certainty what the stock market or interest rates may do over the short term. While keeping a long-term focus can help investors ride out periods of short-term volatility, these periods can be even more nerve-wracking if, say, your ability to pay future utility or grocery bills is tied up in the markets.

With a traditional income annuity your level of payout is locked in—regardless of where investment returns go from here. Generating at least some of your income from annuities can also help you create a diversified portfolio of income sources, so you’re not overly reliant on one single source of retirement income.

4. Added protection against abuse and fraud

No one wants to imagine that one day they might be unable to make their own financial decisions—or worse, be vulnerable to exploitation or fraud. Buying an annuity in your younger retirement years affords extra protection against these unsavory scenarios in your older retirement years.

With a traditional income annuity, you make an irrevocable contract with an insurance company. That stream of income will be paid directly to you for the rest of your life. And no fraudster or bad actor will be able to get their hands on the lump sum that you used to buy it.

5. Confidence to enjoy your money

Without sufficient guaranteed income to meet essential expenses, nearly every spending decision in retirement can become fraught: Can you really afford that vacation? Should you give that grandchild a less generous birthday present, just to be safe? In fact, studies show that some retiree households spend much less than they can afford to, particularly during early retirement, possibly due to fears of outliving their money.2

By locking in a certain level of income, an annuity may help give you permission to enjoy the money you worked so hard to accumulate. What you spend today won’t jeopardize your income 20 years from now, so you can go ahead and live those years to their fullest potential.

Tradeoffs of a fixed income annuity

To be sure, no financial product can protect against all forms of risk. That's why we suggest your retirement-income portfolio should include a variety of investments, with income annuities representing a portion of your total portfolio. That's also why it's important to consider the tradeoffs of income annuities, which can include:

  • Giving up control and liquidity. With a traditional income annuity, you give up access to that cash in exchange for the promise of regular, reliable income. If something changes in your situation, you won’t be able to get that lump sum of cash back.3
  • Potential lack of inflation protection. With the most plain-vanilla annuities, the payment you receive is fixed over your lifetime and won’t rise with inflation. One option to help reduce this risk is by adding a "cost-of-living adjustment" to an income annuity, which can increase your payment each year by a set percentage, such as 1% to 3%.4
  • Credit risk of the insurance company. Like other insurance products, the strength of an annuity’s guarantee relies on the credit strength of the insurance company. That’s why it can be important to check insurers’ financial strength ratings.
  • Lower assets in case of premature death. An annuity can help protect against the risk of outliving your investments. However, it may result in lower assets available for heirs if instead you pass sooner than expected.5
  • Reduced growth potential. By using a lump sum to buy an income annuity, you forego the chance at participating in market returns potential with that money.

Buying an annuity can be a major financial commitment. Some retirees may feel anxiety at the prospect of locking away a large sum, making them hesitant to follow through. That's one reason why we suggest dedicating only a portion of your savings—and not your entire nest egg—to annuities.

Financial decisions are almost never easy. But the payoff of buying an income annuity can mean less stress, less uncertainty, fewer tough decisions, and more peace of mind in your decades to come. And who doesn't want that for their golden years?

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Annuity guarantees are subject to the claims-paying ability of the issuing insurance company.

1. Pension benefits are guaranteed by the plan sponsor unless the sponsor transfers the liability to a third-party insurance company. Unlike pensions, annuities must be purchased and have associated costs and expenses. 2. David M. Blanchett and Warren Cormier, “Right-Sizing Retirement: Exploring the Retirement Consumption Gap in Early Retirement,” Journal of Financial Planning, February 2021, 3. If retaining access to this cash is important to you and to your plan, you may also consider an annuity that offers a Guaranteed Lifetime Withdrawal Benefit, which provides lifetime income but also access to your investment should your plans change or an emergency arises. 4. Adding a cost-of-living adjustment (COLA) will generally reduce the initial level of payment. Because a COLA is not linked to the rate of inflation, this feature does not eliminate and can only reduce inflation risk. 5. Most income annuities offer optional beneficiary protection that may help ensure your heirs receive a death benefit if you pass sooner than expected.

Investing involves risk, including risk of loss.

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