As the overall markets have swooned and once plush retirement accounts have lost value, you might be interested in a guaranteed lifetime stream of income.
Commercials are more prevalent and many financial firms are now advertising the merits of this simple concept. But what are the financial products behind these guarantees and how can you benefit from lifetime income?
Guaranteed lifetime income can only be provided from one financial instrument – an annuity account. Sometimes referred to as an immediate or lifetime annuity, these accounts pay principal and interest for your entire life. In this way, they operate much like a pension plan from a former employer.
In its simplest form, a lump sum deposit is made into an annuity with a trusted insurance company. Based on your age, gender and initial initial investment – a monthly stream of income will be generated from the deposit. Principal and interest will be paid out for the rest of your life.
You can fund a lifetime annuity with before or after tax dollars. Some investors choose to rollover an IRA, 403(b) or 401(k) account while others might invest using certificates of deposit, money market funds, brokerage accounts or mutual funds.
Those who invest a portion of their retirement dollars in an annuity will always have the security of guaranteed income. Not only will you receive principal, but you also receive the interest on your investment. Lifetime payments will never decrease and are unaffected by stock and bond market declines. By reducing your exposure to the overall markets, you can be assured that a portion of your retirement is safe.
Annuity accounts are backed by the full faith of the chosen insurance company, but more importantly are insured by the Guaranty Association of the State where you reside. Annuity carriers are one of the most regulated sectors in the financial industry. They must carry reserves to back their claims and they cannot lend your money out.
Recently, large banks like Washington Mutual and enormous investment firms like Bear Stearns have gone bankrupt, but the annuity carriers have withstood the economic downturn. This is due in large part to their highly regulated nature and reserve requirements.
It will depend on how your annuity has been setup. A lifetime annuity will cease all payments at passing unless you have added what is called a “period certain.” This is insurance speak for a guaranteed period of payments. And some annuities with lifetime income riders will continue to pay to a spouse or will send any remaining balance to your named beneficiaries.
If you purchase a lifetime annuity with a 10 year period certain for example, then all payments will continue for a minimum of ten years. A period certain guarantees that you or your beneficiaries receive the initial investment and interest should there be a premature passing. If you live longer than the ten year period, the payments will continue until passing. Period certain lengths will usually vary between 5 and 30 years if they are chosen.
In other cases, a joint and survivor with life clause can be added for married couples. This clause will guarantee payments for the lifetime of both spouses. Should one spouse pass away, then the living spouse will continue to receive payments for the duration of his or her lifetime.
It is important to note that monthly payments will be greatest when a period certain or joint ownership has not been selected. Choosing a life only annuity will make the most sense for those who do not worry about providing for a spouse or any chosen beneficiaries.
It depends on whether the annuity is funded with qualified or non-qualified dollars. A qualified account is one that has not been taxed like an IRA, 403(b), 401(k), etc. All funds distributed from a qualified account, including a qualified annuity policy, will be taxed as ordinary income.
However, non-qualified deposits (after tax dollars) distributed through a lifetime annuity offer tax advantages to the owner. The annuity will generate income tax with each distribution, however the principal will never be taxed. Only the interest growth is taxed as ordinary income.
The interest is not received all at once, but over the lifetime of the annuity. The majority of the systematic payment each month is principal and thus excluded from taxes. This is often referred to as the exclusion ratio. By spreading out the taxable gains over the life of the annuity, the owner will pay less in income taxes.
In most cases, once the stream of lifetime income has been setup it is irreversible. Very few insurance companies allow for a lump sum cash payment in lieu of the monthly payments. There are entrepreneurial companies that specialize in the purchase of lifetime annuity accounts, but the owner will receive less than face value.
However, annuities that are purchased with a lifetime income rider will allow you to turn your income on and off. And they will also allow for a full distribution if you change your mind. The only disadvantage is that you have paid for an income rider that you may not have used.
Most financial advisors will say yes. Annuities have gained popularity during the last decade as the overall markets have not performed well. A recent Business Week article queried a cross section of experts near retirement and many discussed the use of lifetime and deferred annuity accounts to ensure reliable income.
There are those, however, who would still rather invest all of your nest egg in the stock market for their own financial gain. Some stock brokers dislike annuity accounts and trumpet the fees and commissions to agents and the insurance companies. It should be noted that fees and commissions associated with an annuity are no more than any other financial instrument – in fact they are usually less. Let’s remember that brokers have a lot to lose if their clients choose to safely invest elsewhere.
If you want safety and security, but are not yet ready for an income stream, then a tax deferred annuity can be purchased. Deferred annuities grow through compounding interest and can lock in interest rates for a desired number of years. When ready, the owner can transfer their entire deferred annuity into a lifetime account and begin a stream of income.
Deferred annuities usually pay more interest than bank certificates, money market and savings accounts. The owner is under no obligation to setup a lifetime stream of income (annuitize) at the end of the term. Many investors own deferred accounts for their entire lifetime and then pass them lump sum and penalty free to their named beneficiaries.
It is wise to request quotes from several carriers. Monthly payments can vary drastically depending on the insurance company and the internal returns of the policy. Independent agents (like us) can filter several well rated insurance carriers to find the best lifetime account for you.
The agents of Hyers and Associates have access to many insurance providers and can help to ensure a stable retirement for you. Contact us for more information today.