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Retirement Planning > Social Security

Annuities and Social Security: What retirees need to know

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For retirement planners, two of the most common concerns among clients involve annuities and Social Security. We recently spoke with three top producers about how they handle both topics. Here’s their advice.

For part one of this Producer Roundtable, see: How to be a retirement planner

Q. Consumers continue to hear and read strong criticism of annuities, often criticism centered on their complexity. How do you combat that criticism in your own retirement planning discussions?

Curtis V. Cloke, CLTC, LUTCF, financial advisor and retirement income expert, trainer and speaker: I often espouse a strategy that follows what I call a “divide and conquer” approach. This involves separating the retirement income a client requires into two sub-categories: (1) an inflation-adjusted income floor and (2) everything else. The inflation-adjusted income floor is the money a client needs to cover expenses in retirement to live the lifestyle he or she wants. The “everything else” category covers assets that are left over to achieve legacy, growth and liquidity goals.

What I find is clients are more willing to allow a higher level of risk for assets that are intended to achieve goals that fall under the “everything else” category more than for those that will fund the income floor. Once they have come to that inevitable conclusion, I begin educating them about annuities.

I talk to them about how an annuity, being an insurance product, is a guaranteed source of income that is not subject to the caprice of the markets, an especially important benefit for those people who do not have pension plans. I explain how mortality credits add an extra source of investment return — Retirement Alpha — over what can be realized from traditional investments of comparable risk. I also explain that certain single premium immediate annuity — SPIA — and deferred income annuity — DIA — contracts come with optional riders that can provide valuable benefits, such as inflation protection. It all has to do with framing the problem and its solution correctly and clearly.

See also: 13 ways an annuity can benefit an estate plan

Randy L. Scritchfield, CFP, LUTCF, president of Montgomery Financial Group in Damascus, Md.: Something that will always provide job security for us advisors is the inherent complexity of products. The ability to translate complex products into simple — but still complete and accurate — terms will ensure that such an advisor will flourish. The sayings that we learned early in the business still apply: “People want to know what time it is; they do not want to know how the watch works.”

Of course, our new disclosure requirements and forms facilitate our explaining the products fully to clients, but we must still convey what it does for them, and that is provide a lifetime income.

I also tell clients, “When you were young, you needed life insurance in case you died too soon. Now, as part of retirement planning, an annuity — with living benefits — is what you need to insure against your living too long.”

Paul S. Carpenter, CPA, CFP. Carpenter Financial Services: Knowledge is always the foremost way of overcoming ignorance. I educate my clients to better understand the differences between sequence of returns and a simple average rate of return. Nobody can accurately predict the sequence of returns of any given portfolio, other than a fixed account. Negative returns in the early years of the spending phase of a portfolio will sink an income plan beyond the point of recovery. An example goes a long way in helping clients understand this concept. Longevity is also an unknowable variable. An annuity solves this by promising lifetime cash flow of a certain amount, regardless of the sequence of returns experienced. This is a rather simple concept to understand, because it is similar to a defined benefit pension.

Usually, it is not complexity but cost that is a pressure point for an annuity. To me, this is a value proposition; all economics involve costs. When the cost is worth the value, I believe you have a fair trade. Annuities are never the entire solution. In a world where the defined benefit plan has gone the way of the leisure suit, I do not think you can ignore the fact that there is a need for a steady dependable core of predictable cash flow.

The underlying mechanics of an annuity can be complex, but you don’t have to know the physics of an internal combustion engine to safely drive a car, just the rules of the road and how to operate the vehicle. I think the average person can understand the rules of the road on what to expect from a particular annuity. I absolutely believe in full disclosure of costs, surrender tables, and limits to how cash will ultimately be disbursed. A client needs to know how to read the dashboard of their annuity — the quarterly and annual statements. I explain each of the gauges and what reading it shows — cash value, surrender value, benefit base, anniversary date, etc. We provide drivers ed and some refresher courses — periodic account reviews — along the way, so clients can safely navigate their annuity through retirement without crashing.

Q. Some advisors these days have begun to integrate Social Security planning into their retirement planning discussions. How do you handle the whole issue of Social Security benefits in your retirement planning discussions, and do you use specific tools to assist in that regard?

Scritchfield: I never tell clients that Social Security will not be there, per se, but rather, I tell them to minimize it for planning purposes. It has been interesting that, in recent years, the Social Security payment has been a pleasant surprise to many of my clients, as they were not counting on it and were otherwise adequately prepared.

Carpenter: We absolutely consider Social Security in our retirement plans. At my practice, we point out to clients that there is now a trust fund disclosure made by the Social Security Administration stating 100 percent funding only extends through 2034 or so. We believe some changes will occur before then, but we cannot ignore Social Security entirely, so we attempt to give it the proper weight and place in our plans.

Most boomers are convinced they need to begin Social Security income at age 62. We attempt to educate clients on the pros and cons of such an arbitrary decision, using Social Security calculators available from various sources as well as information available from SSA directly. We ask clients to bring any recent Social Security statements showing estimated benefits at full retirement age and early retirement age. We also have clients inquire about possible benefits available from former spouses to integrate those figures into our plans. There can be a lot of dynamics at play when trying to optimize Social Security benefits.

Cloke: I consider Social Security optimization to be of pivotal importance in my retirement planning solutions. The extra dollars you can squeeze out of those monthly checks by delaying benefits can mean a big difference in the lifestyle you can afford in your retirement years. For example, at age 62, a client can receive a maximum monthly benefit of $1,855. If he or she were to delay receiving those benefits until age 70, that maximum monthly benefit would be $3,266!

There are other valuable strategies to look into as well, such as filing and suspending, cashing in on spousal benefits, or taking advantage of certain divorce-related rules in statutes.

A full retirement income plan, however, needs to address shortfalls that can result from a Social Security optimization strategy. Clients will need to know how to bridge the income gap in between years they are eligible for Social Security and wish to receive benefits, or in between the years they receive reduced spousal benefits until they begin full benefits. A good advisor is going to address these questions with a holistic retirement plan.

I use a combination of online Social Security optimization software and specialized in-house analysis to arrive at my final conclusions. Sometimes I recommend annuities, and, other times, it is best to recommend they work an extra couple of years.

For more, see:

4 retirement income risks — and how to avoid them

4 ways insurance can protect your clients’ retirement funds

Consumers are retiring earlier than planned


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