One question uppermost in the minds of many boomers now planning for retirement is how much money they can safely withdraw from their annuities without putting their long-term retirement income at risk.
The rule-of-thumb that has long been bandied about is 4% per annum. But advisors interviewed say that a more educated estimate ultimately requires a detailed analysis of the client’s situation including retirement goals and objectives, financial resources available (both inside and outside the annuity), annual budget, as well as investment performance, and risk tolerance.
“Making an informed decision about when and how much to withdraw [against an annuity] is a function of good planning,” says Jim Meaders, an advisor and president of National Insurance Brokerage, Atlanta, Ga. “That planning has to take into account such questions as the client’s earnings potential, the type of annuity and how much income can realistically be expected over retirement.”
At a minimum, says Felix Baz-Dresch, a chartered financial consultant and president of Baz-Dresch Financial Services Inc, Leawood, Kan., annuity distributions should meet the client’s fixed costs: Money to be set aside annually to cover the client’s food, mortgage, transportation, clothing and other basics. Funds for variable expenses over and above these essentials, such as vacations, can be drawn against other assets.
But Herb Daroff, a partner at Baystate Financial Services, Boston, Mass., thinks that pegging the annuity investment to overhead is too conservative. A more reliable measure, he suggests, is the standard of living the client desires in retirement. “A number that everyone throws around [for covering fixed expenses] is 4%,” he says. “That’s not going to get people a respectable standard of living in retirement. Net after taxes and inflation, you’ve lost purchasing power.”
However large the required nest egg, the next step is deciding how best to build one. For all but potentially the most immediate needs, advisors say, a variable annuity carrying one or more guarantees is often the best bet. The reason: A variable annuity that invests in the stock market can offer the superior returns needed to counteract the effects of inflation and taxes. And with a guarantee attached to the product, clients can also hedge–for a fee–against downtowns in market performance.
For most clients, Daroff favors a 6% guaranteed minimum income benefit, which assures a minimum income to the contract holder, whatever the market’s performance. If, for example, clients were to put $100,000 into a deferred annuity offering a 6% GMIB rider, they would lock in $6,000 per year income stream upon annuitization. They would also lock in the highest anniversary value. If stocks tumbled from day one and never recovered, Daroff says, clients could still annuitize the initial $100,000 investment.
“The GMIB is absolutely designed for the most risk-averse investors,” says Daroff. “They get the upside of solid equity performance, but also a downside guarantee of a 6% hedge. That’s very powerful.”