Fixed Annuities Explained

Matt Blocki from EWA delves into fixed annuities in retirement income planning. He underscores the shift from traditional income sources to personal investments, leading to increased interest in annuities. Matt discusses single premium immediate annuities and deferred income annuities, likening annuities to life insurance for longevity.

He outlines suitability, advocating for retirees who need income rather than those still accumulating wealth. He highlights how current low interest rates affect annuity payouts, explaining joint annuitants and guaranteed payment periods. The video concludes with considerations for annuity-influenced investment portfolios, emphasizing individualized analysis.

Video Transcript

Hello, Matt Blocki with EWA. Today we are going to be discussing annuities and specifically fixed annuities and how they may or may not work well in your retirement income plan. In the old days there were typically three sources of income for someone entering retirement.

I’ll view this like a stool. The first thing was Social Security. The second thing was fined pension program. And the third thing was any personal investments that one would have. So Social Security right now is still here and that’s a separate video.

In itself we’re comfortable you’re over the age of 50 that your Social Security benefit will in fact be here. But it is getting attacked right now with potentially Medicare cost rising every year, which certain parts of Medicare come out of Social Security.

So large and large. The Social Security payment we still view as a stool, one leg of your stool, but it’s not going to be as strong of a leg as it used to be 2030 years ago because of certain factors.

The second part of the retirement equation was pensions and very few people have a defined benefit pension. School teachers still have them, police officers still have them. But a lot of companies like Kodak, American Airlines, some of these companies eventually had more people retire than they did working and it was just a huge liability on their balance sheet.

So these eventually got taken away. And then the third thing is investment. So the big takeaway here is for someone retiring, the investment portfolio is not just a third of the equation. For most people it’s all of the equation.

Because of this, annuities have started to become more and more popular and some companies have started to really push them. So the purpose of this video, although is educational, it’s also to provide insight on making sure that if you do an annuity.

It’s done in the right structure and it’s meant to support your retirement lifestyle the correct way. So fixed annuities, the first kind that you can do is a single premium immediate annuity. That means you put a lump sum of money in and in return the company starts paying you the same amount for the rest of your life.

The second kind is a deferred income annuity where you put the money in and then set it date in the future where the company pays you then for the rest of your life. So with that being said, the annuities is very similar to a life insurance conversation and the fact that one protects you from dying too soon, which would be the life insurance.

The annuity is essentially as an insurance against you living too long. So the annuity is based upon the annuitance lifespan and as long as you’re living, the company will continue to pay you. Now, if it’s just based upon your lifespan and you live one day and then you pass, depending on the election, all that money could be gone.

So it’s similar in the fact that the company is taking your money in return, they’re giving you a paycheck for as long as you live. The first thing I want to address is what type of individual would an annuity be appropriate?

And we typically view financial planning as two stages. The first stage is you climb the mountain. So if someone that’s working and not retired and still having a paycheck, in this case the majority of the time, we would see an annuity as not appropriate to have because while the money is there, it’s going to be relatively either high fees or low returns.

But then the second stage is for someone coming down the mountain that actually needs income. This is where an annuity could be considered, but still needs to be very thoroughly analyzed before determining if it’s in your best interest.

Just as an example, if a 65 to 70 year old, let’s say puts in $300,000 to an annuity. And in return, the company then agrees to pay that individual about 20,000 per year. And these are based upon the current payout rates, but that would be a fixed rate that would occur for the rest of your life.

If you end up living for 20 years, you put in 300, you get back 400. If you end up living 25 years, you put in 300, you end up getting 500. So the first thing I want to point out is that the current landscape with interest rates being low and longetivity, so people expecting to live longer and longer annuity payouts are much lower than they used to be.

Meaning that if you were to take this amount of money and invest it elsewhere and live 20 or 25 years, in general, your payout, your investment return, if you analyze it, is going to be two or 3%. Now, if you end up not living that long and you don’t have a protection mechanism in place such as a second annuitant, a joint annuitant or a fixed guaranteed payment period, then there’s a probability that you could lose on a lot of your initial investment because the payments would then shut off.

So the first thing we would do if you’re considering this is, are you married? Should you have a joint annuitant attached to this policy? So that means if you die, your spouse then continues those payments for the rest of their life.

Now, that’s going to mean a haircut. So if this is what’s called a single life annuity and you put the same amount of money into a joint life annuity, that payout is going to be a little bit less because the company is taking on more risk.

If you pass, they still have to pay your spouse. So that’s the first layer of protection. The second layer of protection is you can actually add usually up to a 20 year guaranteed period certain on an annuity, which simply means.

If both you and your spouse pass, god forbid in day one or year one, your children or some beneficiary that you do designate, somebody gets that 20 years paid out no matter what. So in general, it’s a CD like return that gets paid back to your beneficiaries.

But again, as long as one of the joint annuitants, if you did a joint annuity is still living, then it would pay past 20 years. That’s only if both of you pass within the 20 years that there’d be that protection.

Now that we’ve addressed the types, the age group in which it would be appropriate, relatively very low returns that annuity right now would provide. So who would this be appropriate for? So for someone that has, let’s say, a high income need of $150,000 after tax income during retirement, their fixed costs, meaning no matter what, they have to pay, their utility bills, they have to pay certain obligation expenses to live on a month to month basis.

Let’s say that’s $75,000 and Social Security is paying $50,000. We would see potentially a fixed annuity could fulfill that gap. To get that $25,000 in, at least your fixed costs are guaranteed. There’s an epidemic in the stock market.

You have a monthly cash flow that’s coming in. Now, this could also easily be achieved out of a portfolio that has some fixed income instrument to it, dividends associated with it as well. But purely from a peace of mind perspective, that payment is going to come in no matter what, usually backed up by good insurance company that’s also further backed up by the state insurance commissioner.

So again, if you’re extremely risk averse able to accept much, much lower returns than could otherwise be generated in a portfolio and like the consistency of just getting a paycheck in the mail on a month to month basis, this is where an annuity could be appropriate.

Um, if you end up doing a fixed annuity, then we would recommend your investment portfolio because a higher amount of your money is fulfilled, higher amount of your needs on a month to month basis are fulfilled, then this should be appropriately invested in a higher concentration of equities.

So to really boil this down, if you end up doing a fixed Annuity, be the equity to bond ratio that you have should be adjusted as a result of that extra income source. Because typically we recommend having safe money to represent at least seven years of whatever gap exists.

So if the annuity has raised that four, then that seven years obviously goes down and the equity percentage should go higher. In general, we are not a big fan of annuities overall. Some fixed annuities specifically for retirees can make sense on a case by case basis, depending on risk, appetite, and then also general needs on a month to month basis.

But we welcome questions if you have them.

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