Can an annuity help create more predictable retirement income?
Market volatility, longevity and the transition from accumulating wealth to generating retirement income can create new financial challenges. Certain annuities may help address specific risks, but they are not all alike and are not appropriate for everyone.
Retirement planning changes when your portfolio must support regular withdrawals. Market volatility, sequence-of-returns risk, longevity, inflation, healthcare costs, taxes, unexpected expenses and liquidity needs all matter. An annuity may address some of these risks. It does not eliminate all of them.
An insurance contract, not a one-size-fits-all answer.
An annuity is a contract between an individual and an insurance company. The individual generally pays a lump sum or series of premiums, and the insurer provides benefits according to the contract.
Premium→Contract terms→Accumulation→Income or distribution
Depending on the contract, benefits may include tax-deferred accumulation, interest-crediting provisions, potential market-linked growth, lifetime income, death benefits and optional riders. Annuities are generally long-term financial products, not short-term savings accounts.
Six major categories
Different structures solve different problems.
01
Fixed annuities
A contract-based interest rate and specified protections, subject to the insurer’s obligations. MYGAs are a multi-year rate commitment, not a bank CD.
Market exposure
Lower volatility
Downside risk
Contract dependent
02
Fixed indexed annuities
Interest-crediting potential linked to an external index. The owner does not directly invest in the index.
Market exposure
Indirect index-linked
Downside risk
Contract dependent
03
Variable annuities
Assets are allocated among investment subaccounts. Variable annuities are securities and account values can decline.
Market exposure
Direct investment exposure
Downside risk
Yes
04
RILAs
Registered index-linked annuities may use buffers or floors, but protection is limited and investors can lose money.
Market exposure
Index-linked
Downside risk
Limited but real
05
Immediate annuities
A lump sum exchanged for an income stream that generally begins shortly after purchase.
Market exposure
Income focused
Downside risk
Contract based
06
Deferred income annuities
Income begins at a future date and may be evaluated as one way to create an income floor later in retirement.
Market exposure
Income focused
Downside risk
Contract based
Crediting methods, income options, liquidity, costs and protections vary materially by contract. Fixed indexed annuities may be subject to caps, participation rates, spreads or other provisions and do not necessarily receive the full return of a referenced index.
Volatility in retirement
Declines and withdrawals can arrive at the same time.
Sequence-of-returns risk is the danger that market declines early in retirement, combined with withdrawals, can make recovery more difficult. One planning approach evaluates whether a portion of assets could provide contractual income, reducing reliance on selling market-based investments during significant volatility.
Income strategySocial Security + pensionPotential annuity incomePortfolio serves other goals
Certain annuity structures can provide contractual protections against specified market losses, subject to contract terms and the claims-paying ability of the issuing insurer.
A planning framework
Build an income floor before asking the portfolio to do everything.
This hypothetical framework is not a recommendation. It simply separates essential expenses from discretionary spending, then compares the income gap with potential sources of predictable income.
Monthly retirement expenses$10,000
Social Security$4,000
Pension$1,500
Income gap to evaluate$4,500
The remaining portfolio may continue serving growth, inflation protection, liquidity, legacy and unexpected-expense objectives.
Hypothetical planning examples
Concepts, not product illustrations.
Example 01
John & Susan, 64 and 62
John and Susan have $1.8 million in retirement assets. They expect to spend $120,000 annually, while Social Security and pension income cover $65,000. Their annual income gap is $55,000 before considering taxes or changes in spending.
Instead of assuming every dollar of the gap must come from portfolio withdrawals, their advisor could evaluate whether a portion of their assets should support a contractual income objective. The question is not whether to replace the portfolio, but whether reducing the amount that must be sold from market-based investments during difficult periods would improve the overall plan. Liquidity, legacy goals, health costs and the income needed later in retirement would all be part of that evaluation.
Hypothetical example for educational purposes only. It does not represent any actual investment, annuity contract or client experience.Example 02
A market decline near retirement
An investor retires with $1 million. Shortly after retirement, the market-based portion of the portfolio experiences a hypothetical 20% decline. If regular withdrawals continue at the same time, fewer invested assets remain positioned to participate in a recovery.
This is the practical concern behind sequence-of-returns risk. A separate contractual income source may reduce the amount that needs to be withdrawn from depressed market assets, which can give the remaining portfolio more time to recover. It does not make the decline disappear, guarantee a recovery or remove every retirement risk. It simply changes which assets are asked to fund spending in that period.
Hypothetical example for educational purposes only. It does not represent any actual investment, annuity contract or client experience.Example 03
David, age 67
David has $1.5 million in retirement savings, receives $3,500 each month from Social Security and would like to spend $8,000 each month in retirement. His initial planning gap is $4,500 per month.
David and his advisor could evaluate whether using a portion, not necessarily all, of his assets for a contractual lifetime-income objective would make his plan more durable. Potential benefits could include more predictable cash flow and less dependence on market withdrawals. The tradeoffs may include reduced liquidity, surrender restrictions, fees depending on the product, inflation risk, opportunity cost and the financial strength of the issuing insurer.
Hypothetical example for educational purposes only. It does not represent any actual investment, annuity contract or client experience.
Potential advantages
What an annuity may help address.
Lifetime income and longevity-risk management
Tax-deferred growth, where applicable
Specified market-risk management in certain structures
More predictable retirement cash flow
Optional income or death benefits, often at additional cost
Potential tradeoffs
What to weigh carefully.
Liquidity restrictions and surrender charges
Complexity, fees and rider costs
Inflation risk and opportunity cost
Qualified and non-qualified tax treatment
Insurance company credit risk
Tax-deferred growth inside an IRA or other tax-deferred retirement account generally does not provide an additional tax-deferral benefit. Certain distributions before age 59½ may result in an additional federal tax penalty.
Myth vs. reality
Better questions lead to better decisions.
Myth
“All annuities are the same.”
Reality
There are multiple categories with substantially different risk, return, liquidity, income and cost characteristics.
Myth
“Annuities have no market risk.”
Reality
That depends on the product. Variable annuities and RILAs can experience investment losses.
Myth
“An annuity is always better than investing.”
Reality
They solve different problems. Investments may be more appropriate for growth, liquidity and other objectives.
Myth
“Everyone approaching retirement should own one.”
Reality
Suitability depends on financial circumstances, objectives, liquidity requirements, risk tolerance, taxes and the broader strategy.
Before you decide
10 questions to ask before buying an annuity.
What financial problem am I trying to solve?
What type of annuity is this?
What exactly is guaranteed, and who guarantees it?
What happens if I need my money early?
What are the surrender charges?
What are all contract and rider costs?
How is interest or investment return calculated?
What happens to the contract when I die?
How does it fit with my investments, Social Security, pension, taxes and estate plan?
What tradeoffs am I making for the protection or income I am considering?
If these questions cannot be answered clearly, do not rush the decision.
Already own an annuity?
Does your current annuity still fit your retirement plan?
An independent annuity evaluation can help clarify the current value, income and death benefits, surrender period, rider costs, investment options and crediting methodology, then consider how the contract fits with your retirement income, investments, taxes, liquidity and legacy goals.
Understand retirement income, market risk and financial guarantees, including the questions to ask before considering an annuity.
A balanced, MRA-branded guide for the retirement transition.
The MRA approach
An annuity should be evaluated as part of your financial plan.
At MRA Advisory Group, we believe every financial decision is connected. The better question is not simply “Should I buy an annuity?” It is “What combination of financial strategies gives me the best opportunity to create the retirement I want?”
