How a Life Annuity Can Reduce Retirement Costs

Written by Hersh Stern Updated Wednesday, May 23, 2018

One question that baby boomers must ask themselves, and answer honestly, is "Do I have enough money for my retirement or will I outlive my income?"

The answer is never simple and it is almost impossible to calculate a completely accurate figure due to variables like heath care needs, taxes, and the performance of the financial markets. The problem is that you may think you have enough for retirement when in reality you don’t. In many cases buying a life annuity may be part of the solution.

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Simply enter your age, gender, select an income start date, and the dollar amount you have to invest. (If your want income paid over your and your spouse's lifetimes enter your spouse's age and gender, too.) Then click "Get My Quote." You'll instantly see an estimate of how much monthly income you can withdraw at your projected start date.

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Using the Annuity Calculator

We will stick to the basics and keep the math simple. Let's assume that you are 65 years old and getting ready to retire this year. You have a corporate pension and some entitled income from the government but you think you will need an additional $1,000 a month for the rest of your life.

So how much money do you need now to generate a $1,000 a month until you die?

In order to find an answer you need to decide on an investment return and determine an investment horizon. In other words, what kind of return can you expect from your money and how long do you plan to live. Let’s look at the numbers.

Assuming an investment return of 1.50%, which is pretty realistic for a safe investment these days, and that you are a male who will live until your average life expectancy which is 84.2 years (in other words 19 years starting from age 65) you would need roughly $200,000. If you hope to make it to the ripe old age of 90 (which is 25 years beginning from age 65) you would need $250,000.

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As a comparison the cost of a life annuity which would pay you $1,000 per month for as long as you lived ("Single Premium Immediate Annuity"), is approximately $175,000 (use the calculator to see how much it is in your case).

Now you might think that 1.5% is too low a return to use in these annuity calculations. In the current fiscal environment, however, this is a representative rate you can get for a guaranteed investment.

These numbers show just how difficult retirement planning can be. Low return rates require a much bigger nest egg. Paying $250,000 for a paltry $1,000 income can be depressing. The numbers grow even more daunting if you need $10,000 a month in income.

What Financial Advisors Are Saying

Now let's look at what many financial advisors are telling investors. They often repeat the mantra that taking on more risk for higher returns can help drive down the lump sum needed to generate the proper retirement income.

As an example, if you are investing more aggressively, using equity-based mutual funds, you can use a higher return rate such as 5.00%. The lump sum required to hit that $1,000 a month drops to $145,000 to get to life expectancy (instead of $200,000).

These figures are certainly more enticing than the ones assuming a 1.50% return. The problem is that these numbers are assuming a number of factors over which you have no control; it is not possible to realistically adjust the numbers to get the answer you need.

If you plan your retirement assuming that you will get the higher 5.00% return you must be prepared for things not working out and you will end up with much less than you expected.

Spending $175,000 for a life annuity on the other hand can ensure that you have that $1,000 a month coming in at a fixed and guaranteed cost. You don’t have to worry or predict how long you will live, as the payments will continue until your death.

The point is that funding your retirement is serious business and making assumptions about future rates of return can be dangerous and leave you seriously underfunded when you need income the most. A life annuity is one of the most cost effective and safest ways to convert your nest egg into a lifetime of guaranteed income.

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