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19 Aug 2019

Pfau: Annuities Are Better Than Bonds for Guaranteed Income

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Post by MoneyRadio Staff

(Money) One of the biggest challenges in retirement is building a reliable stream of monthly income to support you for what could be a very long time. While retirees have long relied on bonds for this purpose, a retirement income expert recently told MONEY that there’s a better solution: income annuities.

In a recent Facebook chat with members of the Retire With Money group, Wade D. Pfau repeatedly made a case for what he considers a better alternative to cash or bonds for retirement income: a single premium immediate income annuity (SPIA) or single premium deferred income annuity. Both are plain-vanilla types of income annuities, an insurance product where you trade a lump sum payment for guaranteed monthly income for life. (Income annuities are not to be confused with their complex—and often way too expensive—cousins, the variable annuity and the fixed indexed annuity.)

Pfau, a chartered financial analyst (CFA), is definitely someone worth hearing out. He helped develop the Retirement Income Certified Professional programat The American College of Financial Services, where he oversees educating financial advisors on best practices for retirement income. He is the founder of Retirement Researcher, an educational site that helps do-it-yourself investors explore academic research. And this fall, he will publish his third book on retirement planning strategies, with income annuities as a featured topic.

Funding the Spending Gap

Experts call this the “bucket approach,” with the money for near-term expenses parked in cash or cash equivalents and rest of your money in stocks. That way, you won’t have to worry about stock fluctuations affecting your ability to pay your bills in the near term, yet you can still capture stocks’ long-term growth to help your portfolio outpace inflation over time.

But cash and bonds aren’t the only option for your “safe money.” In fact, annuities can be preferable, Pfau says. In response to a question about using a bond ladder, Pfau noted that an annuity that delivers monthly income for life (and if you choose, the life of a spouse) is a more efficient way to generate guaranteed lifetime income. That’s because bonds in a ladder eventually mature, and you may not be able to reinvest at the same (or better) interest rate.

When another member asked about using municipal bonds or a ladder of certificates of deposit (CDs) to fund living costs, Pfau noted that, “both (are) struggling to compete with something that can provide guaranteed income.”

Pfau suggested considering using money from your current bond allocation to buy the annuity, because it replaces the bonds as an income generator. Following that advice will increase the portion of your remaining investment portfolio invested in stocks. Pfau said that can be smart, too. Because you’ll have your living costs covered with guaranteed income, you can afford to have more invested in stocks. “If we draw from our bond holdings to buy an immediate annuity, it can generally better support retirement spending,” he said.

For retirees, the case for income annuities becomes even stronger in today’s low interest rate environment, Pfau told MONEY in a follow-up email. This is because annuities’ payouts (known in the industry as “mortality credits”) are not affected by interest rates.

Annuities have another benefit to retirees as they age: even if you’re a do-it-yourself investor, “with cognitive decline, continuing to manage retirement income can be difficult,” Pfau noted. Annuities are easier to manage than bonds, since the latter require regular reinvestment as they mature, while annuities’ monthly checks continue without any effort on the recipient’s part.

Pfau also threw a bit of cold water on another popular retirement income strategy: investing in stocks and bonds with the intention of only spending the income they throw off. Retirees are often loathe to tap their principal, but they shouldn’t be, he says.

“When you invest for income, you start tilting to riskier parts of the market….you might have a higher dividend rate but you might be more exposed to capital loses and ultimately a lower sustainable income level.” Pfau suggested that a total return approach to retirement income could be a better way to go.

This article is suggested reading by Secured Financial Services, LLC and President and Chief Executive Officer of Secured Financial Solutions, LLC, Anil Vazirani. Please visit https://secured-financial-solutions.com/

Retire and Stay Retired Safe! Smart! Secure!

Based in Scottsdale, Arizona, Secured Financial Solutions is one of the leading financial service firms in Arizona, catering to the financial planning needs of retirees and pre-retirees.

One of the benefits you can count on when working with one of our financial advisors is an outstanding personal relationship with an advisor. As a client, you will deal directly with a financial advisor who will take the time to understand your situation, objectives, estate planning, and retirement planning needs as well as your risk tolerance. We work directly with other advisors as well as CPAs, attorneys and trustees, to ensure that the investments we make will align with your estate plans, and that you are not faced with heavy tax burdens.

You can expect Secured Financial Solutions to develop comprehensive solutions to your complex wealth management and estate planning needs. Our one-on-one approach helps you achieve your financial planning goals, including maximizing your estate, retirement planning, minimizing your tax obligation, and continuing your family legacy. Our investment advisors will work with your CPA, attorneys, and other trusted professionals to help you make intelligent choices that align with your financial and personal goals.

This article is suggested reading by Secured Financial Services, LLC and President and Chief Executive Officer of Secured Financial Solutions, LLC, Anil Vazirani. Please visit https://secured-financial-solutions.com/

Retire and Stay Retired Safe! Smart! Secure!

Based in Scottsdale, Arizona, Secured Financial Solutions is one of the leading financial service firms in Arizona, catering to the financial planning needs of retirees and pre-retirees.

One of the benefits you can count on when working with one of our financial advisors is an outstanding personal relationship with an advisor. As a client, you will deal directly with a financial advisor who will take the time to understand your situation, objectives, estate planning, and retirement planning needs as well as your risk tolerance. We work directly with other advisors as well as CPAs, attorneys and trustees, to ensure that the investments we make will align with your estate plans and that you are not faced with heavy tax burdens.

You can expect Secured Financial Solutions to develop comprehensive solutions to your complex wealth management and estate planning needs. Our one-on-one approach helps you achieve your financial planning goals, including maximizing your estate, retirement planning, minimizing your tax obligation, and continuing your family legacy. Our investment advisors will work with your CPA, attorneys, and other trusted professionals to help you make intelligent choices that align with your financial and personal goals.