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How to turn retirement savings into retirement income


An income annuity can convert your savings or a pension-plan lump sum into a lifetime stream of income.

Will you have enough income for retirement?Is enough of it guaranteed for life so you don’t need to worry about running out of money if you live to a ripe old age?

Social Security payments equal only about 40 percent of the average wage earner's pre-retirement income. If like most people, you don’t have a traditional employer-provided pension, you’ll have to make up the rest. A rough rule of thumb is that you’ll need 80 percent of your pre-retirement income.

Let’s say you’ve done the right things. You’ve taken advantage of your employer-sponsored plan and have socked away money in your 401(k), 457 or 403(b) plan and invested wisely. You’ve also invested in an IRA and perhaps a Roth IRA.

How can you best turn some of your savings into guaranteed income? Many economists recommend annuitizing a significant portion of your retirement savings.

“Begin by annuitizing enough of your assets so that you can provide for 100% of your minimum acceptable level of retirement income,” says a 2007 study, “Investing your Lump Sum at Retirement,” from Wharton Financial Institutions Center. “Annuitization provides the only viable way to achieve this security without spending a lot more money.”

Insuring for longevity

A deferred lifetime income annuity offered by an insurance company assures you’ll have a guaranteed income for life, even if you live to 100 or beyond. Also called a longevity annuity, it hedges against the financial risk of living a long life. It’s like the opposite of life insurance.

You turn over your money to the insurer in exchange for a promise of guaranteed future income starting on a date that you choose. Many buyers of deferred income annuities choose to start taking payments when they turn 72, the same age you must begin taking annual required minimum distributions (RMDs) from a standard IRA, 401(k) or other qualified plan.

If you’re funding your income annuity with qualified 401(k) or IRA funds and you want to delay payments beyond age 72, you’ll need to purchase a Qualified Longevity Annuity Contract (QLAC). A QLAC is a special type of deferred income annuity designed specifically for qualified retirement funds. It lets you allocate up to 25% of the total of all your IRAs or $135,000, whichever is less, to a QLAC and delay RMD payments until up to age 85.

With any time of income annuity, you’ll know the exact amount of monthly lifetime income you’ll receive and the exact date when it begins. You can buy either a single-life annuity or a joint-life annuity, which typically covers both spouses. It’s the most efficient way to protect against outliving your assets in very old age.

The insurer invests your money for many years, enabling it to compound until you begin receiving income. The longer you delay taking payments and the more advanced age you start taking them, the greater the monthly payout.

Your payments will continue even after the insurer has repaid your entire principal. Buyers who do not live to an advanced old age subsidize those who do: that’s the insurance aspect.

People who need retirement income right away can instead choose an immediate annuity.

Retirees who have an adequate guaranteed income say they’re happier. An annuity can create both guaranteed income security and foster peace of mind.

You may be able to do better than your pension plan

If you have a traditional pension plan, income will start when you reach retirement age and continue the rest of your life. A no-brainer?Not always. Sometimes an annuity is the better choice.

If you’re about to retire, ask your employer about the size of your lump-sum option and your monthly payments. Then, you can get quotes from an annuity provider representing multiple annuity companies. This will let you make a valid comparison.

An annuity is based on the same actuarial math as a pension, except the insurer does consider gender. (Pension plans cannot.) That can disadvantage women because they are expected to live longer but it can advantage men.

If you go this route, you must roll over the pension lump sum into an annuity IRA to avoid a big tax bill on the distribution.

With an annuity IRA, you control when you begin receiving retirement income. You can start taking penalty-free payments as early as 59½ or you can delay them until the year you turn 72 when you must start required minimum distributions (RMDs).

Most pension plans start paying out when you turn 65 if you’re retired. Getting seven more years of tax deferral can help your savings grow significantly if you can afford to wait.

While most people choose a lifetime annuity, you can choose a set period, such as 15 years, and receive more annual income. This can be a good choice for people who have other income sources kicking in at a future date or who don’t expect to live to an advanced age.

Most pension plans are sound, but some are underfunded. Most pensions are protected by the Pension Benefit Guaranty Corporation, but only up to certain limits. If there’s any reason to think your pension plan is underfunded, you can reduce your risk by opting out of it.

A lump-sum payout transfers the risks associated with investment performance and longevity from the pension plan sponsor to the participant. But then you can transfer that risk to an annuity company via an IRA annuity.

You’ll want to be sure that your insurer will be able to meet its long-term commitment to you. You can easily find financial strength ratings from A.M. Best Company and other rating services on the insurer’s website and other places.

Annuity insurers file regular financial reports with state insurance departments that strictly regulate them.

Additionally, state guaranty associations insure annuities up to certain limits in the unlikely event of the insurer failing. If you’re putting a lot of money in annuities, you can spread it out among more than one insurer so you’ll have complete protection from the guaranty association.

Annuity expert Ken Nuss is the founder and CEO of AnnuityAdvantage, a leading online provider of fixed-rate, fixed-indexed, and income annuities. He launched the AnnuityAdvantage website in 1999 to help people looking for their best options in principal-protected annuities. He writes on retirement income and annuities regularly for several leading financial websites. A free quote comparison service with interest rates from dozens of insurers is available at or by calling (800) 239-0356.

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Jennifer N. Lee, MD, FAAFP
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