As you hit midlife, whether to buy annuities becomes a more critical question. To help you figure out how this investment could factor into your portfolio, we interviewed certified financial planner Dan Keady, director of financial planning for TIAA-CREF Financial Services. Annuities are attractive because they are one of the few ways to guarantee a steady income for as long as you live. But ther's more to know before you make the annuity calculation for your portfolio.
"It's important to realize that the 401(k ) was never meant as a complete pension program. A fixed annuity can be a good addition because it lends stability to your portfolio and because it pays a guaranteed interest rate," Keady says, adding that your forties is not too early to begin considering this type of investment.
"You should start thinking about retirement early on — in your forties and early fifties. You have to think not only about how big a nest egg you can grow, but how much income you can replace when you are no longer working. An annuity can take a sum of money and convert it to payments that exist as long as you do."
A fixed annuity can smooth out the bumps in the market by providing a steady source of income, come bull market or bear. "When there's a huge market downturn, like we had in 2008-2009, if you try to retire that's a problem because your portfolio is way down." Keady himself, who's 54, has been putting some money into annuities for years so he'll have a guaranteed income that will last as long as he does, as well as for the stability.
In achieving stability, what you give up is growth. If the market is soaring, your annuity remains the same. Diversifying your portfolio is the key to maintaining growth so you won't end up behind the eight ball due to inflation and higher health care costs.
What percentage of your portfolio should be annuities? "We have an annuity calculator where you can go online and based on your savings, retirement date, and other data, you can see what percentage is good for you. For someone in their forties or young fifties, it may be ten or twenty percent," says Keady, adding that "Part of the decision also depends on your risk tolerance." As you get into your sixties, closer to retirement, let's say you need to cover basic expenses of $50,000 a year. Social Security for you and your spouse provides $40,000 and you have no defined-benefit pension plan. That's a $10,000 gap. You want an income stream to replace that gap." That's what an annuity can provide.
When it comes time to buy annuities, here's what to look for. For a fixed annuity (there's also a variable annuity), Keady says it's important that it's low-cost, and that there are not a lot of fees and expenses behind it. Number two, you need to understand the cost if you want to get out of it someday. Is there a penalty for early withdrawal? What do the income options look like down the road?