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It’s easy for someone like me with a pension and Social Security as income to harp on the need for a steady income stream in retirement. The thought of coming up with a withdrawal strategy from investments combined with the possibility- even unlikely – of running out of money scares me no end. The complexity of strategies I read about is just as disturbing. I doubt I could do it.
On the other hand, quite unintentionally I have built an income stream with two dividend paying stocks and a few bond funds. Combined they would generate income of about $40,000 a year – half tax free – yet there is still a measure of risk with both.
If I were saving for retirement today I would be thinking about what income can be generated from dividends, interest and reasonable capital gain distributions.
I would be saving on both a pre and post tax basis with the goal of using at least a portion of after tax money to buy an immediate annuity with income equal to basic living expenses to assure I won’t be homeless or hungry and can pay health insurance.
My goal would be living in retirement as I desired without needing a complex withdrawal strategy beyond what is automatically distributed to me from earnings each month or quarter. My RMDs, if any, would be reinvested to add to the cash flow and to make sure there is always a cash reserve for emergencies and large one off purchases.
This approach could also provide survivor benefits.
Am I being unrealistic?
When pensions were common, most people knew about them and tried (many unsuccessfully) to work long enough for an employer to qualify. My father, who worked in aerospace, was laid off from Douglas Aircraft at 9 years and 11 months and didn’t qualify for any pension because of a 10 year cliff qualification requirement. He got another job, and continued to work, but it was with a number of different companies, and he reached retirement without a pension.
His experience colored my own view of how companies operated and treated their employees, I ended up having a career with a company which didn’t offer a pension, but had alternative methods of providing for their employees’ retirement, Their solution was a profit sharing retirement trust. The trust was 100% paid for by the company and they managed the investments as well and covered to expenses of the trust. We received annual reports about the value of the trust, our share, and projections of what we might get at retirement. If anything, these projections were too conservative.
The trust included an opportunity for employees to use their balance at retirement to buy an annuity. NONE of the employees ever did this when they retired, because the performance of the trust (invested mainly in the stock market) was so outstanding. We had many retired employees who after making withdrawals from their portion of the trust for ten years had significantly higher balances than when they retired and were earning more than when they were employed.
You can guess that when I retired, I did not opt for an annuity either. I have many friends who worked for this company and are retired. All of them make more now than when they worked.
Of course, the challenge for more than half the population is that they don’t earn enough to live today, plus save for retirement. In our HCOL area, a married couple who both work at Kroger as cashiers and might each make $20/hour find that their combined $80k income is low when just their annual rent is $36k. I am sure that Kroger offers a 401k, and some kind of match. I wonder how many Kroger employees participate.
I don’t think you are being unrealistic.
But it may be that the idea of an annuity
appeals to you because your expectation
of a pension conditioned you to focus on
the concept of a guaranteed income.
if you had no pension, you might have
dealt with longevity risk by over saving.
Suppose you had arrived at retirement
with an asset base that supported
a withdrawal rate of 2.5 Pct. Would
you still be attracted to annuities.
I may be exactly the sort of person you described, Will.
I do not like using insurance companies for anything but insurance, and have no pension, but a few years ago bought a deferred income annuity from one of the highest-rated insurance companies I could find. My goal was to top up what I expect to get from our Social Security benefits so the annuity plus SS covers essential fixed expenses (we live in a higher-cost area). These are the expenses we would cut back to if something went really wrong.
The rest of our plan uses income from our IRAs plus taxable retirement savings, income which assumes an average 2.5% withdrawal rate. I like having a layer cake of income from a handful of sources. It is a bit more complex than SS + pension, but when we get to age 75 and start RMDs, the whole thing will run with very little manual effort.
Very hard to answer, but knowing my desire to control as much as possible to avoid risk and stress, I think I would want an annuity to cover the basic spending in retirement.
However, I’m sure in that case I would have put money is a designated account just for that purpose and thus I would assume it was spent all along and converting it to an annuity would not be a tough decision.
We do that now with funds in accounts designated for certain purposes, such as travel. It makes spending decisions easier. My wife has a goal of a new kitchen. Knowing that I am building up a fund for that purpose. If and when it happens, I won’t care about spending the money designated for that purpose. In my mind it is already gone.
Dick, this is a great topic to address. I see the value of generating a steady income that covers your expenses. I’m also one of the lucky ones who has a traditional pension. Unfortunately it was frozen as a result of our division being sold to a private equity firm, so its about 70% of what I had expected. We had been consistent savers while working so we are able to make up the difference from SS and savings as required.
Your approach makes sense for you, but it implies a level of financial resources that may be a challenge for many retirees. As you’ve written, traditional pensions are rare nowadays. Many of the retirees I see at tax time have SS and some level of retirement savings.
You mention using “a portion of after tax savings” to buy an immediate annuity equal to basic living expenses. Per Fidelity’s Income Annuity Calculator, a $1M annuity would provide about $60,000 per year in income. Not a bad income, but not a fortune where you and I live.
$40,000 per year of dividends from stocks and bonds, assuming an average yield of 4%, requires another $1M of investments.
What I’ve seen is that retirees who have most of their assets in a retirement account are loath to invest their biggest asset in an annuity. I often hear some version of “what if I die early” concern. I don’t think your question is unrealistic, but it isn’t popular.
I think we need to keep in mind that many people are living in retirement with total income of $40,000 or so and much of that is SS. What a person needs to generate in income is highly dependent on their pre retirement income and lifestyle. Most would need far less than $60,000 in addition to SS.
Working spouses also play an important role generating income.
As far as annuities go, you’re right, but annuities are available with guaranteed minimum payments, return of unused funds and some inflation adjustments.
This is Chris. We are 15 years younger than you and your wife. I agree with what you said about having many pots to draw from in retirement and try to have your basic expenses covered by “guaranteed” type sources. This is what we have done. The only thing was when I researched the fixed annuities, we would have to give a lot upfront to not get a lot in income. We have our pots in different things like IRA, Roth, taxable account, cash and HSA. We are still working through some of this since spouse just retired in Jan.
To quote Rick, 1 million generates 60k from an annuity, so about 6 %. That’s more then you can safely draw from your IRA, and you can get a return of unused premium if you die to soon. Also, those options don’t cost too much. Just don’t spend all your money on the annuity. However, you do say that you have covered all of your basic expenses, so in that case I would agree that you don’t need the annuity. One can always be purchased in the future if needed.
We don’t have those kind of resources, Dan. I did look into an annuity for a couple of small pensions my spouse has, but we got more taking the pensions themselves. I can see where it would be more if you had more. Chris