If you’re one of the 80 percent of American workers who are retiring today without a pension, then you might be worried out running out of money. Indeed, people are so worried about outliving their funds, they’d rather not live longer, even if given the choice. Turing an investment portfolio into a steady stream of income has gotten harder over the years thanks to low bond yields, high market volatility, and increased longevity. But it’s not impossible.
There are cheap ways to get a retirement income and expensive ways to get an income. Which way is the best way for you? Here is a five-step process used by financial professionals in the industry to help you figure out how to secure a retirement income even if you don’t have a pension.
STEP #1: LOOK AT WHAT YOU HAVE
Before you decide on an income strategy for retirement, first look at where you stand. Most people have at least one source of guaranteed income during retirement in the form of Social Security. If you are married, then you might be able to count on two checks. What other sources of guaranteed income will you have? Do you own any rental properties? Do you receive any book royalties? Do you lease out any land? Will you be working part-time?
STEP #2: CALCULATE WHAT YOU NEED
Most experts advise that you should plan to spend around 80 percent of your current income during retirement. Expenses that you can easily cut right out of the budget include travel costs to and from work, the mortgage if you’ll have it paid off, and the contributions you would normally make to your retirement accounts. Depending on how big these expenses are, eliminating them from your budget just might make your dollars go farther than you think.
STEP #3: IDENTIFY WHAT’S MISSING
The difference between the income you need and the income you have is the income that’s missing. Studies have shown that retirees with higher levels of guarantees reported higher levels of retirement satisfaction than those who had fewer guarantees. What’s most interesting, however, is that happiness doesn’t go up with the amount of money in the actual portfolio; happiness goes up according to lifelong guarantees.
When you don’t have a pension, it’s less stressful to spend the money allocated as retirement income than it is to spend down money directly from your portfolio. The only way to use part of your portfolio to replace the secure, lifetime pension you’re missing is by investing in a product designed to give you a steady income. This is where an annuity can be part of a successful income strategy.
STEP #4: ANSWER THE QUESTION: WHEN?
An annuity is funded by your retirement savings, and because it’s a contract between you and an insurance company, you have a lot of control over what kind of annuity you buy. The first thing you have to decide is the type of annuity you need. There are two types available depending on WHEN you need the income.
To help you decide on the when don’t forget to consider the income you are required to take in the form of your Required Minimum Distributions (RMDs) from traditional IRA accounts. Also, consider your spouse. IRA money can be rolled over into an annuity, where it can satisfy the income needs of not just one but two individuals.
- Immediate Annuities: These are the simplest and most straightforward types of annuities, and they are also the ones that behave the most like a traditional pension. It works like this: you hand over a sum of money to the insurance company, and starting that year, you receive a regular paycheck. The insurance company will dole that money out for you over a set period of years or for your lifetime, whichever you choose. There are no surprises. Like a pension, you know what your income amount will be.
- Deferred Annuities: Under this umbrella category, there are other sub-types or categories of annuities. This is also where things can get complicated. The basic premise of a deferred annuity is that you give the insurance company an amount of money, which they grow for you. Then, at a later date, you access this money as income. The future date can be anywhere from five to 20 years, and most deferred annuities allow you to lock in a guaranteed growth rate. However, depending on how the income is calculated, you might have some surprises about how much income you will actually receive.
STEP #5: MAKE A DECISION ABOUT HOW
There are different ways annuities calculate how much income you will receive. You will want to choose an annuity based on its ability to give you the amount of income you need that fits your needs, timeline, and risk tolerance. As with most investments, the more risk you take, the greater the potential for reward. Also, generally speaking, the more complicated the annuity, the higher the fees.
- Fixed annuities offer you a stated interest rate, which is declared periodically by the insurance company. A fixed immediate annuity, for example, will give you a set income amount for a set length of time, but the money will be annuitized. That means you won’t be able to take the money out of the contract to use for other expenses. The only way you can access the money is via your income payments.
- Flexible annuities such as the fixed-indexed option are more complicated because they calculate your returns based on a link to a market index, and guaranteed income is often generated by the addition of a rider. These options have the potential to earn you higher returns, and they can give you greater access to your money because you don’t have to annuitize. For example, a fixed-indexed annuity with an income rider will allow you to withdraw up to 10 percent of your money without penalty, and most deferred annuities also waive the surrender charges in the event of a long-term care event.
- Floating annuities are just another way to think of variable annuities. With this type of annuity, you don’t know what the value of your account will be at any given time because variable annuities invest in the stock market. There is the potential for greater gain and the potential for greater loss, which affects how much income you’ll receive. With this type of annuity, earning higher returns doesn’t necessarily mean a higher income because the fees are also much higher. Variable annuities are also deferred annuities, and usually, the only way to guarantee income is by the purchase of an income rider. This is often misrepresented to investors as a guaranteed interest rate.
If you have questions about the best way to secure your retirement income, we encourage you to reach out to one of our advisors. We are crazy passionate about annuities because that’s what we specialize in, and we don’t work for a life insurance company or a brokerage firm. We’re independent, and we work for you, the individual investor. If you know that you need to guarantee a portion of your portfolio in order to get a secure stream of retirement income, reach out to us today so we can run some comparison tests for you. It is our mission to help retirees who don’t have a pension get the income they deserve.