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Building Your Own Pension

Worried about lifetime income? New annuity options offer checks that last as long as you do

An expanding industry

Interest in income annuities is growing: Sales rose 6.6 percent in 2011, to a record $8.1 billion, according to insurance-industry research group LIMRA. A New York Life deferred annuity aimed at pre-retirees (ages 55 through 65) is off to the fastest start of any annuity in company history.

A variety of online tools ease annuity shopping: Both Vanguard and Fidelity Investments, for example, offer Web resources for comparing policies; ImmediateAnnuities.com can give you an instant quote. Selecting an annuity provider means choosing a partner for life, so check insurance ratings at A. M. Best Company, Standard & Poor's, Fitch Ratings or Moody's Investor Services. You also mitigate risk by spreading annuity purchases among more than one carrier.

Income annuities aren't for everyone. Once you've bought one, the principal's gone. There's no take-back option for buyers who need emergency funds or have second thoughts. But some policies offer a "cash refund" feature that pays whatever remains of the premium to a beneficiary if the buyer dies prematurely.

Critics also warn of inflation risk. Standard fixed annuities offer payments that don't rise with inflation, so future checks could be worth less. You can buy cost-of-living add-ons that automatically increase with inflation, but at significant additional cost.

"Having one fixed stream of cash flow that can't change is a dangerous approach," argues Charlie Farrell, a principal at Northstar Investment Advisors.

Diminished pay-outs

Also, because of low interest rates, both immediate and deferred annuities have less attractive terms than they've had in the past or may have in the future.

For instance, a 65-year-old man who bought a $100,000 SPIA in June 2012 would receive $549 per month for life, according to Vanguard. That's an initial annual payout of 6.59 percent, compared with a payout of 8.7 percent as recently as 2000, Morningstar data show.

But the key factor in deciding to purchase an income annuity, either an SPIA or a longevity policy, is health. "If you're a single male who has smoked all your life and no one in your family's history has lived past 63, a lifetime income annuity might not make a lot of sense," says Dallas Salisbury, president of the Employee Benefit Research Institute.

"On the other hand, if your parents lived to 94, you never smoked, you're not obese, and your doctors say your biggest problem is that you might live to 105, for that person not to have a cost-effective, well-structured set of annuity options is a sad thing," he says.

Salisbury falls into the latter camp — both of his parents lived to 93, and he's in good health at 62. So in 2009 he dropped $100,000 on a longevity policy that will pay him $105,000 per year when he hits age 85. He's betting he'll make it.

Mark Miller, author of The Hard Times Guide to Retirement Security, blogs at RetirementRevised.com.

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