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Are SPIA's "returns" deceptive?
Old 04-13-2011, 07:09 AM   #1
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Are SPIA's "returns" deceptive?

I've got a ways to go (1-2 years) before ER, but thanks to this site have become so much the wiser. I think I've ruled out SPIA as part of my ER portfolio, but would like some confirmation:
Since SPIA's payments include return of principal, the % rate of return is by defintion overstated, compared to CD, etc. If I would be reasonably financially secure (outside of any planned annuity), wouldn't I be better off NOT getting an annuity? I figure the chances of the principal appreciating are at least as good as the combined "return" of principal and interest from an annuity.
I also have a reduced life expectancy, which leads me to believe I'm better off eschewing an annuity. I realize this is an individual decision, but am I missing anything in my analysis?
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Old 04-13-2011, 07:20 AM   #2
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SPIAs are not about maximizing your net worth. They are a tool for maximizing your income and reducing longevity risk. Use the right tool for the right job. If you are not worried about income maximization and/or longevity risk, SPIAs are probably not for you.

Incidentally, there is also an emerging product called longevity insurance. You plunk down a lump sum today and if you are still alive in X years you get a significant stream of payments for the rest of your life. If you drop dead, you get nothing. Its probably too early to buy, but the idea has a lot of appeal because it helps cut off a particular nasty tail risk for many people.
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Old 04-13-2011, 07:30 AM   #3
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You are correct. SPIA returns (not normally specified on a % return basis, but simple to compute on an IRR worksheet) do include the return of "your" money.

That's why the longer you wait, the better "return" you will get. It's not that they are paying you more % wise, but the return of your money is accelerated due to your advanced age - and less years to return your money, based upon computed expected lifespan. That bumps up the % return on an IRR worksheet.

I'll just offer that an SPIA is not for everybody. IMHO, you need a specific set of conditions that and SPIA will cover, and there is not just one way to view the product.

DW/me have one, primarily to act as a defined benefit plan (e.g. pension) for me since I retired at age 59 and we jointly made the decision for me to delay SS till age 70 (DW will take it at FRA age of 66).

The SPIA acts as a non-cola'ed pension (as many pensions have in the past, assuming you qualified for one) and will just be "icing on the cake" once I claim SS while providing me income not subject to the flux of the market. The SPIA is allowing me to "trade up" to a superior cola adjusted income product at a higher rate than I would currently get, in the future. That "product" is SS.

May 1st I'll complete my first four years in retirement, and using the SPIA to provide a base of income (in addition to TIRA draws). It's worked out well in our case, in our situation. Again, there is no standard answer to the question. You have to look at the current SPIA offerings vs. your specific requirements for secure income.

Some folk’s think they can do better using other methods. No problem with that at all. We chose to use the KISS method for this singular retirement income source.
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Old 04-13-2011, 07:33 AM   #4
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Quote:
Originally Posted by brewer12345 View Post
SPIAs are not about maximizing your net worth. They are a tool for maximizing your income and reducing longevity risk. Use the right tool for the right job. If you are not worried about income maximization and/or longevity risk, SPIAs are probably not for you.

Incidentally, there is also an emerging product called longevity insurance. You plunk down a lump sum today and if you are still alive in X years you get a significant stream of payments for the rest of your life. If you drop dead, you get nothing. Its probably too early to buy, but the idea has a lot of appeal because it helps cut off a particular nasty tail risk for many people.
+1. The elephant in the room with a lifetime SPIA is how long you live. Obviously the longer you live the better they are. If you want "guaranteed" income and maybe to provide income for a surviving spouse they can form the foundation of a retirement income plan. If I was to buy a SPIA it would be the lifetime variety rather than the 5,10 or 20 year variety as I'm an optimist when it comes to my longevity.
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Old 04-13-2011, 07:38 AM   #5
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Originally Posted by nun View Post
I'm an optimist when it comes to my longevity.
There is certainly no future in being a pessimist.
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Old 04-13-2011, 07:40 AM   #6
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If I was to buy a SPIA it would be the lifetime variety rather than the 5,10 or 20 year variety as I'm an optimist when it comes to my longevity.
I would agree, since this is what we did. Every SPIA has different options, based upon the issuing company at the time of application.

At the time we purchased ours, we did it under the terms of joint lifetime (e.g. DW/I receive payments as long as one of us is still alive), with a computed minimum payout period, based upon our expected longevity.

If we both pass before the end of that period, payments continue to our estate. However, if either of us were the rare person to beat the odds and live longer than the guarantee period, payments would continue (at 100%) till we both passed.

As far as the OP's assumption for a reduced life span, I really don't have an opinion/suggestion (even if I was aware of the specific "challange"). Sometimes life has a way of throwing you a curve in a good way - not always only in a negative way. Who really can say how long each of us will continue to live - 30 seconds, 30 minutes, or 30 years?

There are some SPIA's that will give you a higher payout with a range of confirmed medical conditions but not all companies offer them. For instance, I'm a T2 diabetic, but that was not a condition that was specified as an automatic reason to increase monthly payouts (even though without firm control, can reduce your life).

Also, we don't know if the OP has a beneficiary in mind that could benefit from continued payments if the health problem actually reduces life. Again, it's one of those things that need to be analyized from a specific policy offering as related to your personal situation and goals. Nothing is standard with these policies, and in a way I consider that good. Different companies have different options, but you need to sit down and layout your requirements before looking at just what each pays. Depending on your requirements/lifestyle, terms/conditions/options are more important than just what the monthly payment is.
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Old 04-13-2011, 08:34 AM   #7
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SPIAs are not about maximizing your net worth. They are a tool for maximizing your income and reducing longevity risk. Use the right tool for the right job.
Simply said - simply correct...
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Old 04-13-2011, 09:50 AM   #8
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Originally Posted by brewer12345 View Post
SPIAs are not about maximizing your net worth. They are a tool for maximizing your income and reducing longevity risk.
Right.

And I agree with the suggestion that a deferred, zero-cash-value annuity theoretically buys exactly the risk reduction I would want, without wasting money on other things I don't want. And, that the market for such products isn't mature enough to have any meaningful competition.

For the same reason, if I bought an SPIA, I wouldn't get a guaranteed period. In fact, I'm currently buying a little SPIA every month since I'm deferring SS, and that is the first option for the OP to consider.
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Old 04-13-2011, 10:42 AM   #9
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...it took me awhile to figure out what OP meant. Thanks to all for the replies. I'm still up in the air as to which way to go, and as I previously wrote I do have time to make the determination.
Although I may kick the bucket at a normal age, it is unrealstic to count on it. Conversely, my wife has a LONG life expectancy, based on her family's history, so that is a factor we are weighing as well.
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Old 04-13-2011, 05:12 PM   #10
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Originally Posted by mystang52 View Post
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I also have a reduced life expectancy, which leads me to believe I'm better off eschewing an annuity. I realize this is an individual decision, but am I missing anything in my analysis?
I think SPIAs are fine if used correctly and for the right purpose and in the right amount. It is more about picking the right tool for the job.

Financially speaking: What are your goals, what problems do you hope to solve, and what are the resources you have available?

Jim Otar's book "Unveiling the Retirement Myth" decribes how a SPIA might be employed in a retirement plan during distribution and does a pretty good job of describing the potential benefits and risks of the common options for generating a retirement income with one's nest egg.


Regarding life expectancy, I am pretty sure that insurers will factor a reduced life expectancy into the payout (in terms of expected longevity credits)... but you will need to provide proof. You need to research this and would probably need to discuss it with a "reputable" insurance agent to get specific. I would only consider the highest rated insurance companies (i.e., AAA) and compare rates and products.

Right now, interest rates are low and the payout will be somewhat determined by current bond rates. This is another factor to consider. But so is the CD you were comparing against.

One of the biggest factors is that a SPIA is a permanent decision.

There are probably plenty of good books on retirement planning (withdrawal phase) at your public library.

Take your time and do your homework! Develop an overall financial plan. Start by looking at your expected expenses over the rest of your life to try to get a handle on income needs. Then look at the tools available to meet your goals.
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