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Old 11-06-2014, 12:10 PM   #21
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I was curious about something that wasn't really clarified in this discussion. Can you annuitize a tax deferred account (IRA or 401) and draw from it before age 59-1/2 without the 10% penalty? That's what the OP was talking about doing here and I'm not sure if that is correct.
Yes, an annuity as described meets the 72t requirement of substantially equal periodic payments over ones lifetime.
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Old 11-06-2014, 07:04 PM   #22
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For federal employees, the equivalent of a 401k is the "Thrift Savings Plan" (TSP). Prior to and shortly after retirement I ran a TSP annuity estimate. If at my retirement I had chosen that option, and allocated $77,500 to it, and wanted an annuity for my lifetime and which would continue for my wife's lifetime, TSP would only have offered a FIXED annuity of $306 per month ($3,672/year). No inflation adjustment. If Julita and I both died (say in the same car accident) the daughter would have inherited nothing.


When you do the TSP annuity, it is locked in. You cannot increase or decrease the taxable payout to you.


As soon after retirement as was possible, I rolled my TSP money out into a privately managed account. What I did was a little move involved, but if you run a web search for “checkbook IRA” you’ll see the basics…


In early 2013 that account purchased as an asset owned by the account a house for $77,500. It is a 2 bedroom, 1 bath, 1 car garage, red brick structure, about 3 mile from the college. It is rented for $805/month. After tax, insurance, etc. it’s dumping around $7000 a year ($583/month) tax-deferred into the account. If we need it we can withdraw it, otherwise it can accumulate. I've been putting it back into improvements in the house.


$306/month locked-in taxable payment from the "guaranteed" annuity, principle guaranteed to disappear on the second death of myself or my spouse.


Or


$583/month taking the risks of rental real estate, the money falling into a tax deferred account to be withdrawn if needed. The asset remains owned hopefully appreciating, with potential for higher rents, and inheritance by heirs.
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Old 11-06-2014, 07:31 PM   #23
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Thanks. Helpful. Was following your post before Nun and was the genesis of my exploration on this.

I am thinking 20-25 percent of assets is a reasonable amount -- provides a degree/ level of security without jeopardizing a huge chunk of total investable assets. That would also exclude social security which, once eligible, would add to the annuitized percentage of portfolios ...
Look up the work of Prof. Moshe Milevsky (Wade Pfau is his evil twin). His work suggests that something like 25% of assets is about the right proportion to maximize utility/consumption.

I expect to annuitize a 401k that is ca. 15% of my assets down the road. My ex-employer allows the use of 401k funds to supplement the payout of the cash balance pension and that is what I will do.
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Old 11-06-2014, 08:18 PM   #24
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Didn't Dr. Pfau's study of a few years ago show that a SPIA and stocks combination was superior to the stocks/bond asset allocation we normally use?
Yes, given the assumptions he used for his model....
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Old 11-06-2014, 08:27 PM   #25
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Look up the work of Prof. Moshe Milevsky (Wade Pfau is his evil twin). His work suggests that something like 25% of assets is about the right proportion to maximize utility/consumption.

I expect to annuitize a 401k that is ca. 15% of my assets down the road. My ex-employer allows the use of 401k funds to supplement the payout of the cash balance pension and that is what I will do.
Well my state DC plan is almost exactly 25% of my retirement savings and I like being able to start the income stream at 55...the one drawback is that I won't be able to rollover much from my IRA to my ROTH without going into the 15% tax bracket. Still the $20k COLA pension and $15k from rental income will cover my expenses; I'm on track to spend $32k in my first year of ER. Heck when SS and my UK state pension start I'll be in serious accumulation mode again.
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Old 11-07-2014, 03:38 AM   #26
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Are you missing something in that if you stick with 401k and the company pension, you get the (small) pension and still have all your 401k savings. If you convert to annuity you have much less 401k and a non-COLA'd annuity.

Make sure you are comparing the pension plus full 401k potential income vs the annuity plus reduced 401k potential income.

I also agree that inflation is probably more likely than a huge market fall. Once you buy the annuity, you lock in the amount and no chance for increases.

Thanks Chevy. Yes. It would reduce the 401k. But I have assets outside the 401k -taxable account and paid for house so I would be eliminating the 401k and converting it to a monthly cash flow, available at age 45 to allow about 30-40 percent of monthly expenses to be covered today.

I am concerned about inflation. That's where the house and taxable accounts come into play.

I am equally concerned about a protracted decade of slow or no equity gains too. Hence the annuity thinking ....
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Old 11-07-2014, 03:42 AM   #27
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If you choose to annuitize at all, there are several schools of thought. Here's a poll that shows less than half annuitize more than 30% of their assets http://www.bogleheads.org/forum/viewtopic.php?t=66116. Several experts have recently suggested that retirees annuitize enough to cover their essential or "floor expenses" for life (after Soc Sec or other pensions, annuities), which is considerably more than 30% for most retirees - Pfau, Bernstein (recently), Otar to name a few. Otar goes as high as 100% if you're in his "red zone."

Thanks midpack. The annuitized amount would be approx 20 percent of total investable net worth. Of course it is pre- tax money too. I don't think I would ever use an SPIA for all assets -- but 20 percent seems reasonable to meet a good chunk of core expenses and still leave something for DW and DK's if I croak real early.
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Old 11-07-2014, 03:47 AM   #28
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In early 2013 that account purchased as an asset owned by the account a house for $77,500. It is a 2 bedroom, 1 bath, 1 car garage, red brick structure, about 3 mile from the college. It is rented for $805/month. After tax, insurance, etc. it’s dumping around $7000 a year ($583/month) tax-deferred into the account. If we need it we can withdraw it, otherwise it can accumulate. I've been putting it back into improvements in the house. appreciating, with potential for higher rents, and inheritance by heirs.

Interesting approach. My FIL had property in his pension/profit sharing plan and it worked well for him. But I have been a landlord and don't want to do that again especially as I FIRE due to desire to travel and not babysit Tennants. It's not always easy income.
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Old 11-07-2014, 04:47 AM   #29
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In early 2013 that account purchased as an asset owned by the account a house for $77,500. It is a 2 bedroom, 1 bath, 1 car garage, red brick structure, about 3 mile from the college. It is rented for $805/month. After tax, insurance, etc. it’s dumping around $7000 a year ($583/month) tax-deferred into the account. If we need it we can withdraw it, otherwise it can accumulate. I've been putting it back into improvements in the house. appreciating, with potential for higher rents, and inheritance by heirs.

Interesting approach. My FIL had property in his pension/profit sharing plan and it worked well for him. But I have been a landlord and don't want to do that again especially as I FIRE due to desire to travel and not babysit Tennants. It's not always easy income.
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Old 11-08-2014, 05:59 PM   #30
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It also shows that I can take my entire 401K and turn it into an annuity starting right now.
The math says that the annuity pays approx 5.6% annually..
What type of annuity are you talking about?
With most annuity products the "return" rates that they quote are NOT return on investment (ROI). That 5.6% is only annual interest payment rate. Your actual ROI with that annuity is going to be much less when all said and done.
From 2000 through 2013 a portfolio of 75% ten year treasuries and 25% S&P 500 stocks provided an average annual return on investment of 5.8%. This was all during the so-called "lost decade" that annuity salesmen use as their argument in FAVOR of annuities. Avoid annuities.
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Old 11-09-2014, 12:50 AM   #31
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HELP. Was just looking at mega corp pension web site. For grins and running some numbers. Plan to FIRE next year in mid 40's.....

It shows a tiny little pension available to me. It also shows that I can take my entire 401K and turn it into an annuity starting right now.
The math says that the annuity pays approx 5.6% annually.. Just for grins, I ran some numbers - eg a $500K balance will return $2300/month (28K/yr) for life starting at age 46 . But No cola!! There are a few survivor options as well which will be considered for DW's benefit.
The 5.6% is the payout rate. Assuming you are 46 and your life expectancy is 82 you have a discount rate of around 4.4% to provide $28k/year from $500k over 36 years.

My DB buy in opportunity works out to be a bit better, at 55 the payout rate will be 7%, my starting payout is $20k for what will be lump sum of $284k. The interest rate I would have to get on my $284k over 27 years (assuming I live to 82) to support my COLA'ed income is 7.4%...that looks like a good deal and worth giving up a chunk of capital.
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Old 11-09-2014, 10:27 PM   #32
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What type of annuity are you talking about?
With most annuity products the "return" rates that they quote are NOT return on investment (ROI). That 5.6% is only annual interest payment rate. Your actual ROI with that annuity is going to be much less when all said and done.
From 2000 through 2013 a portfolio of 75% ten year treasuries and 25% S&P 500 stocks provided an average annual return on investment of 5.8%. This was all during the so-called "lost decade" that annuity salesmen use as their argument in FAVOR of annuities. Avoid annuities.

Well... the summary for the annuity was simple math. It states that for a $500K buy in, the annuity will toss off $2300/mth guaranteed as long as I live. That's 2300x12=27600/year cash to be (before tax, of course) . 27600/500000= 5.6% (rounded). That to me is the pre-tax rate of return.

Not saying I disagree that this return is (or is not) good...but all depends on the time horizon being viewed (of course).... eg/ The period 2007-2012 returned 0% in equities and 3% long bond.... total return about 1% for a 60/40 portfolio..

YMMV
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Old 11-09-2014, 10:55 PM   #33
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Well... the summary for the annuity was simple math. It states that for a $500K buy in, the annuity will toss off $2300/mth guaranteed as long as I live. That's 2300x12=27600/year cash to be (before tax, of course) . 27600/500000= 5.6% (rounded). That to me is the pre-tax rate of return.

Not saying I disagree that this return is (or is not) good...but all depends on the time horizon being viewed (of course).... eg/ The period 2007-2012 returned 0% in equities and 3% long bond.... total return about 1% for a 60/40 portfolio..

YMMV
Papadad,

Unfortunately, your 5.6% isn't a return on investment: it is a return on investment PLUS a return OF investment. You are receiving some of your original investment in each check. When you die the whole thing folds up. So your return on the annuity is significantly less than the 5.6%

The other thing to realize is that annuities are not all the same. I spent the bulk of my career in academia and have a TIAA fixed income annuity. This creature is not like a SPIA. The payment may go up and down during the payout (although it has a guaranteed floor). Even though current interest rates are low, my initial payment (if I annuitized it today) would be ~7% at age 58. And don't get me started on these indexed variable annuities with their ridiculoys 8% return claims. If you do the math, you quickly discern that ROI on these is more like 2%.

I firmly believe in annuitizing a portion of your nest egg. Transferring the longevity risk to the insurance company allows you to take a withdrawal rate that would be unsafe to take from a volatile portfolio. I agree with having your essential expenses covered by "gauranteed" income streams of some sort.
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Old 11-09-2014, 10:58 PM   #34
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Well... the summary for the annuity was simple math. It states that for a $500K buy in, the annuity will toss off $2300/mth guaranteed as long as I live. That's 2300x12=27600/year cash to be (before tax, of course) . 27600/500000= 5.6% (rounded). That to me is the pre-tax rate of return.

Not saying I disagree that this return is (or is not) good...but all depends on the time horizon being viewed (of course).... eg/ The period 2007-2012 returned 0% in equities and 3% long bond.... total return about 1% for a 60/40 portfolio..

YMMV
That 5.6% is not a rate of return, it's the payout rate and will include some of your principal..it will be calculated on your expected life span. Simply solving the annuity present value equation your interest rate is 4.4%. This is nothing exceptional in the world of annuities. Here is a calculator where you can put in the numbers for a growing annuity....if you have no COLA just enter 0 for the growth factor. For my state pension plan offer I assumed a 2% annual growth because about 70% of it got a 3% COLA last year. When I run the numbers of $19666 for 27 years with a 2% COLA and a $284k buy in I get an interest rate of 7%.
If the state decides to lower the COLA my interest rate will also go down.

Of course longevity and a consistent income stream with some stability are also big factors.
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Old 11-09-2014, 11:05 PM   #35
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I spent the bulk of my career in academia and have a TIAA fixed income annuity. This creature is not like a SPIA. The payment may go up and down during the payout (although it has a guaranteed floor). Even though current interest rates are low, my initial payment (if I annuitized it today) would be ~7% at age 58.
When I got a quote from TIAA to annuitize my TIAA Traditional the payout rate was also around 7% starting at age 55.
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Old 11-10-2014, 01:38 AM   #36
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That 5.6% is not a rate of return, it's the payout rate and will include some of your principal..it will be calculated on your expected life span. Simply solving the annuity present value equation your interest rate is 4.4%. This is nothing exceptional in the world of annuities. Here is a calculator where you can put in the numbers for a growing annuity....if you have no COLA just enter 0 for the growth factor. For my state pension plan offer I assumed a 2% annual growth because about 70% of it got a 3% COLA last year. When I run the numbers of $19666 for 27 years with a 2% COLA and a $284k buy in I get an interest rate of 7%.
If the state decides to lower the COLA my interest rate will also go down.

Of course longevity and a consistent income stream with some stability are also big factors.

Thanks Nun. Yes a bit of semantics but I think I've got what you are saying. Because this is annuitized.

If I live to 120... What is the ROI ?


If I die the day after I buy this thing my ROI is nil. Correct ?




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Old 11-10-2014, 01:40 AM   #37
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Papadad,

Unfortunately, your 5.6% isn't a return on investment: it is a return on investment PLUS a return OF investment. You are receiving some of your original investment in each check. When you die the whole thing folds up. So your return on the annuity is significantly less than the 5.6%

The other thing to realize is that annuities are not all the same. I spent the bulk of my career in academia and have a TIAA fixed income annuity. This creature is not like a SPIA. The payment may go up and down during the payout (although it has a guaranteed floor). Even though current interest rates are low, my initial payment (if I annuitized it today) would be ~7% at age 58. And don't get me started on these indexed variable annuities with their ridiculoys 8% return claims. If you do the math, you quickly discern that ROI on these is more like 2%.

I firmly believe in annuitizing a portion of your nest egg. Transferring the longevity risk to the insurance company allows you to take a withdrawal rate that would be unsafe to take from a volatile portfolio. I agree with having your essential expenses covered by "gauranteed" income streams of some sort.

Thanks robert. Yes. I understand - semantics of what I was trying to describe. In a normal investment Principle is typically at risk but often returned.


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Old 11-10-2014, 06:44 AM   #38
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Thanks Nun. Yes a bit of semantics but I think I've got what you are saying. Because this is annuitized.

If I live to 120... What is the ROI ?


If I die the day after I buy this thing my ROI is nil. Correct ?




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It is much more than semantics. Think of it like your mortgage. If you took out a $100,000 mortgage over 30 years at a 3.5% interest rate, your month payment would be $449. Your annual payments would be $5,388. So by your reckoning you are paying 5.39% on your mortgage ($5,388/$100,000) but you are really only paying 3.5%. See the difference? The 1.89% difference between the two is the portion of your payments that is paying down the loan. Your annuity is the same principle, but inverse since you are receiving rather than paying.

If you die the day after you buy it your return would be negative 100%, not nil. If you invest $100 at the beginning of the year and cash out for $25 at the end of the year your return is -75%. If you cash out for zero your return is -100%.

If you live to 120 your return would probably be very attractive.
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Old 11-10-2014, 08:52 AM   #39
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Thanks Nun. Yes a bit of semantics but I think I've got what you are saying. Because this is annuitized.

If I live to 120... What is the ROI ?


If I die the day after I buy this thing my ROI is nil. Correct ?




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Before I forget here is an annuity calculator that automates solving the mathematical series for a COLAed annuity ......there are many on the web

Present Value of a Growing Annuity

This is definitely not semantics. Annuity sales people rely on people believing that the initial payout rate is the interest rate on their money and that everyone believes that they will live for a long time.

If you die immediately you will have lost your principal and received no payments, a 100% loss....not a very good investment....unless you buy an annuity with a survivor's benefit. If you are married you would probably buy a joint policy.

If you live to 120 you would have 74 years of payments, slotting that into the calculator you come up with an interest rate of 5.4%.....the longer you live the closer your interest rate comes to the initial payout rate of 5.6% (its actually 0.552%).....so if you are sure that you can get better than 5.4% annual return from your money you wouldn't go with the annuity. Of course the important word in the last sentence is "sure". A more sensible age to base your decisions on is your expected life span and for a male aged 46 that is 82 years, according to the SSA. Using that you get an interest rate of 4.4%. Such returns are part of the reason annuities fell out of favor with some planners, but you have to factor in risk and how it fits into your portfolio and how you live. I'm of the opinion that maximizing potential return isn't as important as being sure your basic expenses are covered. Once you've done that you can take all the risks you want with the rest of your portfolio.
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Old 11-10-2014, 10:18 AM   #40
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What Nun said......
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