Milevsky: What Does Retirement Really Cost ?

[FIREd]

That was my understanding as well, with a caveat; you don't have enough to retire "risk free".

Point well taken even if I don't consider annuities risk free.

 

[MichaelB]

Point well taken even if I don't consider annuities risk free.

Of course. I didn't mean to imply he was correct in that view, just that his point was there was a risk of inadequate investment return in equities but not annuities.

A well run pension fund would not have a zero risk portfolio.

 

[youbet]

the TSP calculator points to a 1.6% SWR for me. That's much lower than what I get with FIRECalc. Uh-Oh.

Would you mind sharing what parameters you inputted when you obtained the 1.6% output? I'd like to double check that I'm using this tool correctly.

 

[FinanceDude]

I haven't checked in years, but Vanguard used to have an annuity calculator on their website. They're probably still selling them (annuities, not calculators) but you might have to talk to a rep.

I believe Vangaurd is still selling their annuities through AIG, or did they drop them after the bailout?

 

[FinanceDude]

There is no "magic potion" in SPIA or immediate annuities, COLA or not. The companies that offer them are in it to make money.

SPIA monthly payment rates are all over the map.

 

[FIREd]

Would you mind sharing what parameters you inputted when you obtained the 1.6% output? I'd like to double check that I'm using this tool correctly.

Joint life with spouse
Increasing payments
No cash refund
50% survivor benefit
Ages: 37 and 37

 

[youbet]

Joint life with spouse
Increasing payments
No cash refund
50% survivor benefit
Ages: 37 and 37

Thanks. OK, I'm getting your output when I use your inputs so I guess I'm filling in the fields correctly.

I was just curious because with our geezer status (64 yo) we're inputting 65 yo as the beginning point with a 100% survivor benefit and getting 3.6% output. Age obviously makes a big difference.

I find it interesting that the 3.6% is about my planned WR with FireCalc showing an historical 100% success rate beyond 100 yo at that level. So it looks like I could cash in the portfolio, buy a cola'd annuity (3% limit so there's still some inflation risk) and eliminate the investment risk inherent in my 50/50 portfolio while keeping the same income. Of course, I also give up control of my money and the high probability of my heirs getting an inheritance.

It would certainly be easier to deal with these decisions if one knew his life expectancy, future investment returns and future inflation rates instead of having to guess.

Congrats on being ER'd at 37. I worked 2 long, long decades after that!


Edit: Regarding my "cash in the portfolio" comment above, I suppose I'd have to take taxes into consideration. A significant chunk of my FIRE portfolio is LTCG's and I'd have to pay taxes on that before turning it over to the annuity salesguy. So I guess my income would drop somewhat.

 

[rescueme]

Age obviously makes a big difference.

Sure it does. It's no different than SS. The longer you wait to start, the less years it is expected to pay out, thus resulting in higher monthly payments.

BTW, it has little to do with current interest rates as far as the monthly benefit paid as some folks think (I'll wait, since I'll get a higher return...)

BTW, it's simple to calculate the return on any fixed-payment, life guaranteed SPIA just by using the XRR function on Excel. No charts needed...

 

[haha]

The companies that offer them are in it to make money.

Well, that settles that. i am glad that most American companies offer their goods and services as a gift to mankind.

Whew! I'm glad you warned me, I'll stay away from those capitalist annuity hawkers.

Ha

 

[rescueme]

Well, that settles that. i am glad that most American companies offer their goods and services as a gift to mankind.

Whew! I'm glad you warned me, I'll stay away from those capitalist annuity hawkers.

Ha

 

[youbet]

BTW, it's simple to calculate the return on any fixed-payment, life guaranteed SPIA just by using the XRR function on Excel. No charts needed...

At this point, I'm not interested in non-inflation adjusted annuities since they leave too much risk on the table for my taste.

 

[FinanceDude]

Well, that settles that. i am glad that most American companies offer their goods and services as a gift to mankind.

Whew! I'm glad you warned me, I'll stay away from those capitalist annuity hawkers.

Ha

I am known to overstate the obvious........

 

[FinanceDude]

At this point, I'm not interested in non-inflation adjusted annuities since they leave too much risk on the table for my taste.

You DO KNOW that "inflation-adjusted" annuities are actuarily-based, right? The payments are below those of non-cola annuities, but yes, you get a "bump" every year. All you have to do is live til about age 90 to "beat the system"........

 

[youbet]

You DO KNOW that "inflation-adjusted" annuities are actuarily-based, right? The payments are below those of non-cola annuities, but yes, you get a "bump" every year. All you have to do is live til about age 90 to "beat the system"........

If I'm going to give up all or some of my FIRE portfolio to eliminate investment risk and longevity risk, I don't see the point of leaving inflation risk (very real to me - I lived through the 70's with the "WIN" buttons) on the table. A decade of moderate to high inflation (NOT hyper inflation, just 5% - 10%) compounded will turn that fixed annuity into pocket change pronto.

Milevsky and I are in 100% agreement on that.......... I liked that part of his article.

 

[smjsl]

Actually there is, sort of. In the event an insurer goes into receivership, state insurance regulators step in and take control of the insurer, and if the insurer's assets are insufficient to pay benefits, state guaranty funds would typically make up the difference.

The state guaranty funds are replenished based on future assessments made against the solvent insurers.

While I'm not a big fan of annuities for a number of reasons, the fact is that they are relatively safe given the regulation of the insurance industry and the backstop of the state guarantee funds. Perhaps a small notch below an FDIC insured CD.

I think there is a really big problem with the annuity insurance... it only covers principal. Here is an example: say you invest $100k in SPIA to get $250/month (=3%*100k/12), cola-adjusted. Presumably you choose a highly rated company and it won't fail soon, but 30 years into the future, who knows... So, after 30 years, say inflation was at 3%. Your $250 has now become $606.82/month. If the company fails, all you get back is $100k. To get $606.82/month from that $100k, you'd need to get a cola-adjusted SPIA at the time to return 7.3% (7.3%*100k/12~606.82)... (and if company fails, likely it will happen in a recession kind of environment)

 

[Koolau]

At this point, I'm not interested in non-inflation adjusted annuities since they leave too much risk on the table for my taste.

I have thought about annuities as a back up (to my back ups, to... blah, blah, belt, suspenders... blah, blah). It occurred to me that one might play the game of building in inflation protection by purchasing annuities at intervals instead of buying one large inflation-protected annuity. This plan would have the following (potential) benefits:

1) Higher ages at succeeding purchases would (theoretically) provide higher payouts per input.
2) Gives you some time to see if the markets turn around and (just maybe) give you a chance to decide you don't need no more stinkin' annuities.
3) Any significant inflation would (almost certainly, eventually) lead to higher interest rates which would (theoretically) lead to higher payouts per input.
4) As additional annuities were purchased, different companies could be selected to help minimize putting all eggs into one insurance company.
5) If you croak early, you haven't bet (all) the farm on annuities. Your heirs will be most appreciative.
6) You aren't paying extra fees for the inflation protection (which you JUST might NOT need if inflation chooses not to rear its ugly rear.)
7) You could play the game by ear. If inflation is tame, you can wait longer to buy the next annuity "installment". If it's higher, you could move up your purchase to "titrate" your monthly income. More options = good.


The downside to this plan would include:
1) It assumes that you have a way to preserve or preferably grow your stash while waiting to purchase subsequent annuities. If you can do this (reliably) perhaps you don't need annuities.
2) I suppose interest rates COULD go even lower - but I wouldn't think it likely or significant in magnitude if it occurred.
3) All the disadvantages of annuities in general (adequately discussed elsewhere in this and many other threads, I submit).
4) (I'm sure this group can fill out 4 through 38, heh, heh.)

 

[pb4uski]

I think there is a really big problem with the annuity insurance... it only covers principal. Here is an example: say you invest $100k in SPIA to get $250/month (=3%*100k/12), cola-adjusted. Presumably you choose a highly rated company and it won't fail soon, but 30 years into the future, who knows... So, after 30 years, say inflation was at 3%. Your $250 has now become $606.82/month. If the company fails, all you get back is $100k. To get $606.82/month from that $100k, you'd need to get a cola-adjusted SPIA at the time to return 7.3% (7.3%*100k/12~606.82)... (and if company fails, likely it will happen in a recession kind of environment)

No, it doesn't work the way you think it does. In the event the insurer went into receivership you would get the contractual benefits ($606.82/month in your example) and it would continue to inflate each year based on the provisions in the contract. You would receive the same benefit that you would receive if the insurer was not troubled, but if the insurer's assets were insufficient to pay the contractual benefits then the state guaranty fund would pay for the difference.

 

[chinaco]

I have thought about annuities as a back up (to my back ups, to... blah, blah, belt, suspenders... blah, blah). It occurred to me that one might play the game of building in inflation protection by purchasing annuities at intervals instead of buying one large inflation-protected annuity. ...

Some employ a ladder when purchasing a SPIA to get average rate.

I have read about a similar approach as you suggest. USAA suggests it on their site... I do not think they sell an inflation adjusted annuity. That is probably why they suggest it.

The idea is to buy a nominal annuity for an amount that will meet the needs for for some number of years. for example, one might buy a nominal annuity for an amount that covers projected inflation for several years out. Then several years later, based on the persons "actual personal inflation needs" and life circumstances, purchase another nominal annuity to provide the pay raise. That way, one reserves the right to alter part of the decision later. Plus, if their personal inflation is different that the CPI-U.. they can adjust.

That is one of the options I am considering for an inflation adjustment to our nominal guaranteed income sources.

I have a nominal pension already and intend to make an initial SPIA purchase (ladder the purchase). We will take SSx2 at 62/70. Theses income sources are staggered. As they become available they reduce our WR amount from the portfolio. But eventually, inflation will reduce the spending power of the nominal sources of income.

I will use our portfolio to cover inflation needs (the potential annuity purchase in the future). I will use bonds to hold the inflation reserve. That money might be a mutual fund. But I am considering building a treasury ladder aad maybe some tips with [part] of the portfolio's fixed allocation. Of I do, I will set the maturity date so the funds are available at some projected time in the future.

Of course, with all of the Feds activity.... I am going to hold off for a bit on the SPIA purchase. I can afford to wait and see what happens.

There is more to my plan in terms of portfolio management just in case something happens to me and DW has to try to deal with it...

 

[smjsl]

No, it doesn't work the way you think it does. In the event the insurer went into receivership you would get the contractual benefits ($606.82/month in your example) and it would continue to inflate each year based on the provisions in the contract. You would receive the same benefit that you would receive if the insurer was not troubled, but if the insurer's assets were insufficient to pay the contractual benefits then the state guaranty fund would pay for the difference.

Thanks. Do you have any links confirming this by any chance?

From what I was finding on the state-run websites, they talk about coverage up to some max (e.g. 300k) in terms of "present value" at the time of the failure. So, in my example, I assumed present value would not be $300k, but much more (given the $606.82 inflation protected monthly payment). And so if they determine my max is $300k, they would either return $300k or start payments based on $300k investment at the time of failure, i.e. max covered present value (which would effectively reset monthly payments back to $250, assuming the same rates at the time)...

 

[clifp]

Thanks. Do you have any links confirming this by any chance?

From what I was finding on the state-run websites, they talk about coverage up to some max (e.g. 300k) in terms of "present value" at the time of the failure. So, in my example, I assumed present value would not be $300k, but much more (given the $606.82 inflation protected monthly payment). And so if they determine my max is $300k, they would either return $300k or start payments based on $300k investment at the time of failure, i.e. max covered present value (which would effectively reset monthly payments back to $250, assuming the same rates at the time)...

How COLA pensions or variable annuities are treated by state guaranty associations is a mystery to me. It was one of the questions I had when I spent several weeks and made literally a dozen phone calls and emails to Hawaii association and got no response. I eventually talked to a lawyer that worked for the insurance commissioner, but he wasn't an expert. I'd be interested in seeing a link also.

 

[FinanceDude]

How COLA pensions or variable annuities are treated by state guaranty associations is a mystery to me. It was one of the questions I had when I spent several weeks and made literally a dozen phone calls and emails to Hawaii association and got no response. I eventually talked to a lawyer that worked for the insurance commissioner, but he wasn't an expert. I'd be interested in seeing a link also.

I think its a gray area. In Wisconsin, the limit is $300K, and that only covers the contracts in the event of insolvency. In most cases, another insurer would step up and take over the book of business. Maybe I can dig a little more. More likely, it would act kind of like PBGC, where the govt covers the annuity streams, but at a max of 60% or so. If I find anything out I will report back.

 

[chinaco]

I have thought about annuities as a back up (to my back ups, to... blah, blah, belt, suspenders... blah, blah). It occurred to me that one might play the game of building in inflation protection by purchasing annuities at intervals instead of buying one large inflation-protected annuity. This plan would have the following (potential) benefits:

...

Here is that USAA link.

https://www.usaa.com/inet/pages/annuity_resource_cost_of_living