Nearly half of Americans outlive their assets and die with no money. However, that doesn't mean investors should consider risky opportunities. Instead, there's a simpler and more effective way to generate income.
Last week, I spoke at The Oxford Club’s Private Wealth Seminar at the beautiful Ojai Valley Inn and Spa.
After going for a run, I was in line at the café waiting to order breakfast when a headline in the Los Angeles Times caught my eye. It said, “Crisis for the very old: Many outlive their nest eggs.”
According to an article in Los Angeles Times, 46% of Americans outlive their assets and die with no money.
That scared the heck out of me. It’s a terrifying thought that nearly one out of two elderly Americans struggle to pay their bills.
The article then went on to give a suggestion for how an investor can avoid being part of the 46% who outlive their assets. The writer’s solution: an advanced life deferred annuity, or ALDA.
Several people in line turned around when I (a little too loudly) blurted out, “What?!” My wife thought something was terribly wrong. I explained that there was: This newspaper columnist was offering the worst advice I’d ever seen.
A bad bet
First, let me explain the basics of an ALDA.
Like a regular annuity, it will pay a defined amount of money over a specified period of time. However, the ALDA will pay out later in life. So for example, you can be 65 years old, pay a lump sum today and start collecting the income stream starting at 80.
The ALDA will be cheaper than a regular annuity because the income collected will likely be less than if you started immediately at 65. But if you die before 80, the insurance company keeps the lump sum payment. You don’t collect anything. In the words of Willy Wonka, “You lose. You get nothing. Good day, sir.”
In other words, you’re placing a bet with the insurance company that you’re going to live long enough to recapture all of your lump sum payments in the form of monthly income.
Insurance company executives’ mamas didn’t raise no dummies. There’s a reason these executives make millions and fly private jets — because they bet the right way more often than not.
That doesn’t mean you can’t live to a ripe old age. It just means that financially, an annuity of any kind isn’t designed to work out for your benefit. It was created to generate profits for the insurance company.
Make more money
So forget an annuity that you hope to collect on in 15 years. If you don’t need the income stream for 10 years or more, buy quality Perpetual Dividend Raisers — companies that raise their dividend every year — and reinvest the dividends.
Here’s how it works out.
Let’s say you buy a portfolio of quality Perpetual Dividend Raisers with an average yield of 4% and average annual dividend growth of 10%.
If the companies continue to raise the dividend by an average of 10% every year, as they have over the past 10 years, and the market generates its historical average return, a $200,000 initial investment will be worth $635,549 in 10 years.
If at that point you need the income stream, you simply stop reinvesting and instead collect the $28,808 per year in dividend income. That is likely 50% more than you’d receive if you invested the same $200,000 in a deferred annuity.
In 15 years, the $200,000 portfolio is worth $1,179,868 and spins off $59,968 per year in income. That’s way better than giving an insurance company $200,000 at 65, hope you make it to 80, and then collect less per month than you would investing in quality dividend stocks.
Even better is that as long as the companies continue to raise the dividend, you’ll get an increase every year, something that won’t happen with an annuity.
So if you’re collecting $59,968 at age 80 and the companies you’ve invested in are raising the dividend by 10% per year, at age 81, you’ll collect $65,964. The next year you’ll receive $72,560, etc. And when you pass away, that million-dollar nest egg will go to your heirs instead of an insurance company’s bottom line.
Investing in Perpetual Dividend Raisers is the least expensive method of investing. You get to hang on to and compound those savings rather than pay for an insurance executive’s weekend in Cabo. Furthermore, you’ll make more money than with an annuity, and, importantly, your assets will stay in your family.
Marc Lichtenfeld is a senior analyst at Investment U. See more articles by Marc here.
The information contained in this article should not be construed as investment advice or as a solicitation to buy or sell any stock. Nothing published by Physician’s Money Digest should be considered personalized investment advice. Physician’s Money Digest, its writers and editors, and Intellisphere LLC and its employees are not responsible for errors and/or omissions.