What You Need to Know
- As annuities become more common in 401(k)s, more retiring workers will face the choice of whether to buy one.
- The real value in annuities for a client lies not in growing their money but in the stable income stream they provide.
- On average, annuities are more beneficial to some demographics than others.
A recent study by the Center for Retirement Research at Boston College asked the question: What Is the Value of Annuities?
The study wanted to look at the value of an annuity for those entering retirement as a large cohort of baby boomers who are not covered by traditional defined benefit pension plans are entering their retirement years. The study looked at two statistics for annuities: money’s worth and wealth equivalent.
As annuities and lifetime income options become more prevalent as an option in 401(k) plans, this type of information will become more important for those entering retirement.
Money’s worth is the ratio of the expected present value of the payments that the annuitant expects to receive over their lifetime compared to its premium cost. A ratio of 1 would mean that there is an expectation of receiving payouts equal to a PV of the total premiums. Often the ratio is less than 1 due to the costs embedded in the annuity.
The wealth equivalent is a calculation of the starting wealth that the annuitant would require to be as well off with annuitization of the annuity as without annuitization. This takes into account the insurance against outliving their assets that an annuity provides.
The main finding of the study was that individuals receive a money’s worth of about $0.80 on the dollar for immediate and indexed annuities and about $0.50 on the dollar for deferred annuities. These amounts have remained stable since the last major study in this area in 2000.