The Right Time to Buy an Annuity
Not much in life comes with a guarantee, but annuities are an exception. These insurance contracts guarantee a fixed income stream during retirement. When it comes to purchasing an annuity, your current age and relation to retirement can make a big difference, and the ideal age for purchasing one depends on your individual situation and goals. What works well for someone with a high risk tolerance may not prove suitable for someone seeking conservative investments and vice versa.
Annuities are complicated. As with any investment, it is vital to understand how they work, as well as any potential pros and cons.
Annuities are available as either fixed, indexed, or variable and as immediate or deferred. Immediate annuities start paying right away, while deferred annuities pay the investor a lump sum or monthly payments at an agreed-upon future date.
Fixed-income annuities provide the classic guaranteed monthly payment and tend to be a more attractive choice for those aged 60 and over.
Premiums paid to variable annuities are invested in the stock and bond markets, with money market options—meaning they present more risk. If you do not expect to retire for several years, choosing a variable annuity could provide an opportunity for more growth. Remember, however, that any gains do not come with a guarantee. There is also the potential for losses, which could affect the principal amount.
Indexed annuities pay an interest rate based on the performance of a particular index. The S&P 500 is among the most common indexes used. An indexed annuity allows the purchaser to earn higher yields when the market does well. In bearish years, the insurance contract provides a small, guaranteed interest rate. Indexed annuities are typically recommended for those expecting to retire within 10 to 15 years.
Considering Your Retirement Income Needs
Before considering an annuity, calculate your expected income needs during retirement. Besides Social Security, take into account the value of any pensions, 401(k)s (or similar employer-sponsored retirement plans) and IRAs. It is also important to consider the answers to the following questions when determining your retirement needs: Do you intend to retire completely or work part-time? Do your retirement plans include a lot of travel or costly hobbies? Do you intend to downsize, move to a less expensive area, or maintain your current home?
Maximizing the Monthly Payment
The longer you wait to invest in an income annuity, the higher your monthly income stream will be. If you retire at 65 and purchase an annuity, the income stream will start immediately. However, it will not be nearly as much as if you waited a further decade. For example, the monthly payout for someone who purchases an annuity at 75 is greater than the amount someone aged 65 receives for the same product.
Keep in mind that monthly payments are fixed amounts. They do not rise over time, but they also do not decline. What does change over time, however, is how much of that monthly income is eaten away by inflation. This is why maximizing that income stream is critical, because inflation can have a tremendous effect on your standard of living during retirement.
How Long Will You Spend in Retirement?
One of the mysteries of life is that any one of us could be here today and gone tomorrow. Nevertheless, healthier people tend to live longer than those with chronic conditions, and these days, people are living longer overall. Hence, it is wise to consider the possibility that you could reach the century mark. This means that you must expect to have an income over a potentially long lifespan. If you have reason to expect that you will have an exceptionally long life, your annuity decisions should reflect that.
For example, if you enjoy good health and your relatives have tended to live to ripe old ages, it may be beneficial to wait as long as possible before buying an annuity. Of course, this is based on the assumption that you have sufficient retirement income to maintain your lifestyle.
When to Buy an Annuity
The average age of an annuity holder is 70 years old. For those who purchase an immediate annuity, waiting longer means receiving higher monthly payouts.1
In contrast, those seeking to buy a deferred annuity tend to be much younger, generally between 45 and 55. These younger buyers can take more risks with their investments since they have a longer timeline to retirement. If losses occur, they have time to allow their money to (hopefully) recover. That is not the case for the older investor, for whom relying on a more conservative investment strategy is recommended.
Your financial professional or insurance agent can explain the intricacies of annuities and which of these contracts best suits your needs. These professionals will advise you on the right time to buy an annuity after reviewing your financial situation and current retirement plan. Annuities are not for everyone, but for some retirees, they are good vehicles for ensuring one has sufficient income to enjoy retirement.
1. Annuity-Insurers.org, 2022