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Q-and-A With Jonathan D. Pond: Annuities and Retirement Saving

The company I work for is stopping their defined benefit retirement plan and the payout will be this October. The options are either a lump sum settlement or an annuity. I know there are advantages and disadvantages to both options. An annuity, even with a "safe company," may disappear if the company goes out of business, as some have done recently. I have over 30 years in this plan, and I need to make an informed decision that will last me and my wife the next 30 years or more.  –Dan, Georgia

The decision between taking an income annuity and a lump sum affects almost everyone who is about to retire or who has retired recently. Anyone who has any money set aside for retirement can choose to put it into an annuity. This is a very important decision. If you choose the annuity route, you’ll probably have to live with that decision the rest of your life. Before delving into the nitty-gritty of annuities, keep the following in mind:

Nothing in your financial life is “either/or.” A lot of people think that most of their financial decisions are "either/or" decisions. In other words, when confronted with a financial choice, most people think they must either take one course of action or the other.

But most financial decisions don't require you to do either one thing or the other. Often, a combination is more appropriate, and so it is with your decision. Perhaps a combination of an income annuity for part of the payout and a lump sum for the rest is the better course of action.

These questions can help you decide whether an income annuity should be part of your financial planning.

 1. Are you uncomfortable investing your retirement savings in the stock market? Fixed-income annuities and inflation-adjusted income annuities alleviate any concerns about possibly losing money on your investments, although fixed-income annuities bear the risk of losing ground to inflation. If you are very comfortable with the stock market, you could consider a variable income annuity, the value of which fluctuates according to the performance of the annuity’s underlying mutual funds. You could also simply invest the money on your own, without an annuity.

2. Will your retirement income consist entirely or almost entirely of Social Security and withdrawals from your contemplated annuities? If resources available to invest for growth are small or nonexistent, inflation-adjusted annuities may be preferable to minimize the risk of losing out to inflation. Where other resources can be invested for growth, a fixed-income annuity might be preferable.

3. Are you, and if applicable, your spouse or partner, in good health? The better your health, the more desirable a lifetime annuity. Those in poorer health should usually opt for annuities with a minimum or fixed guaranteed payment period.

4. Have your ancestors lived long enough to make the Social Security Administration cringe? Long life expectancies bode well for the annuitant and bode ill for the insurance company.

5. If you are married, are you concerned about the possibility that years of nursing home expenses could impoverish the other spouse? If so, an annuity can provide a measure of protection for each spouse, since the annuity is not subject to forfeiture to pay nursing home or other care costs. Should other assets have to be spent down, a lifetime annuity will continue to pay for the remainder of the surviving spouse’s life. 

Annuity Distribution Decision Maker

In terms of distribution, this Decision Maker will help you make another important and irreversible decision if you:

 1.     Have decided to purchase an annuity or are going to be receiving payments from a pension plan, and

2.     Have a spouse who will need to be provided for financially, should you die before he or she does. Plans may also allow for non-spouse, contingent beneficiaries.

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