Key Points

As they approach retirement, many people understand the importance of having a financial plan to achieve their goals. But many retirees can struggle to stick with their plans as they navigate generating income from their savings. One potential solution might be to shift some of the burden of managing your savings to an annuity. We review a couple of scenarios where annuities have been used successfully.

Many people understand that having a financial plan is one of the best ways to help achieve their goals. In a recent Schwab survey, eight out of 10 respondents said they had one. 1 What is less clear is whether such a large share of people are prepared for how their outlook might change as they move past the accumulation phase and into retirement.

Retirement has its own set of challenges. Turning a portfolio into a paycheck is one of the most underappreciated challenges of retirement. Will you be ready to manage your assets—plan cash flows, manage risk and stay invested—so you can follow your plan?

To help with this, one option is to shift some of the burden of managing your savings to annuities.

How might annuities help? 

An annuity is a contract with an insurance company where you pay a premium in exchange for a guaranteed stream of income for a fixed period of time—or life. This is of course subject to the financial strength and claims-paying ability of the issuing insurer. When you buy an annuity, it is like structuring a portion of your savings to deliver regular payments to yourself.

Annuities used for retirement income help set a baseline of spending that isn’t dependent on market performance or your ability to patch together a paycheck by selling assets.

Let’s look at two scenarios and examine how fixed immediate and variable annuities might make sense.

Investing in a fixed immediate annuity

Frank and Terri are ready to retire and are satisfied with their savings. They’ve both contributed to their 401(k)s and IRAs and also hold investments in non-retirement investment accounts. However, they aren’t confident their investments will be able to deliver enough dividends and interest income to support them in retirement.

Rather than create a draw-down plan on their own, Frank and Terri could use an immediate annuity, also known as a Single Premium Immediate Annuity (SPIA), to transform part of their retirement savings into a series of payments, similar to what they would receive from a pension, complementing Social Security. Outside of a pension plan and Social Security, an annuity is the only product that guarantees income for the rest of your life.

They’re called single premium immediate annuities because you make a single payment (that is, one lump-sum premium) to purchase an immediate stream of income. They are also called fixed annuities, because the income payments, generally, are fixed and don’t grow over time. Some include riders to increase payments with inflation but that feature will generally lower initial payments due to the cost.

Frank and Terri have $1,000,000 in savings and expect to spend $20,000 annually on essentials after retiring. Their retirement plan targets income of $45,000 a year (excluding Social Security).

• Total savings for retirement = $1,000,000
• Income need after Social Security = $45,000 per year
• Essential expenditures = $20,000

Frank and Terri could purchase a fixed immediate annuity, using current market rates, for $400,000 and receive about $22,000 per year, or roughly a 5.6% annual payout, on the original amount. 2 This guaranteed minimum annual income of roughly $22,000 ($400,000 x 5.6%) would be enough to cover their essentials. The return on the rest of their portfolio—their investable assets—would help them cover the remainder of their expenses.

Immediate annuity example