Using an annuity as a retirement strategy

BY FAZAAD BACCHUS

Almost every Canadian thinks about retirement and saving for retirement. In the saving phase you have a myriad of options, mutual funds, segregated funds, stocks, bonds, GIC’s etc. The choices can be overwhelming and each of them affects you differently. The most significant of all is in relationship to risk; the more risk the better the long term return but stronger short term woes.

But what choices do you have after you have saved up your nest egg and you plan on living for a long time? The biggest fear of a retiree is living too long and running out of money. In my thirty odd years of preparing retirement plans for clients, it is the single most important question, will I run out money? There are plans where you will not run out of money, so let’s talk about them.

Have you heard the term “annuity”? It is a series of equal payments either annually or monthly paid out by an insurance company to a retiree for the rest of their life or for an agreed upon term. This ensures that the retiree will have a continuous flow of income and therefore knows where the next meal is coming from. It has been said that the retiree does not need a cellar full of bread, just a fresh loaf every day.

With an annuity, you give all of your savings (or as much as you want to part with) to an insurance company and depending on that company’s purchase rate, you will receive an annuity. Some companies will pay more than some, depending on their purchase rate, therefore it’s important to shop around. However one has to be careful when a company’s purchase rate is too high, as they may not be able to maintain the annuity payments.

So if you are planning to use an annuity, you have the option of choosing first the term certain annuity. This will pay for a specific duration and when that duration comes to an end, the payments cease even if you are alive. It is most beneficial for a person who believes they do not have longevity in the family. A very unpopular option would be a straight life annuity as payments ceases upon the retiree’s death, even if death happens after the first payment.

A very popular option would be to take a life annuity or an indexed life annuity. This option pays you for as long as you live, payments can increase based on cost of living and payments cease upon your death unless you ask for a guaranteed term attachment which can be as little as five to as much as twenty five years. However, more guarantees means less payments. And finally there is an option of joint and last survivor  annuity. This annuity pays typically a husband and wife an income and if either dies, then the payments continue to the surviving spouse for life.

Annuities are not without its drawbacks and for some, it’s an uncomfortable option. When a person purchases an annuity, they are essentially handing over their money to a financial institution for a guaranteed income. This loss of control of capital can be difficult for some people. Talk to a financial advisor about whether an annuity is right for you.