Most annuities come with unnecessary charges and high expenses, but there is one annuity that can serve you in planning for your retirement: the single premium immediate annuity (SPIA).
What is a SPIA?
A SPIA is a contract with an insurance company in which you give an upfront sum of money, and in return the insurance company will pay you a set amount of money periodically for the rest of your life. This is useful for retirement planning as it ensures you won’t run out of money.
You can receive these payments for as long as you, or even your spouse, live. If you are worried about outliving your retirement savings, a SPIA could be an attractive option for retirement planning.
Annuities can be fixed or variable. A fixed annuity, like the name implies, is a fixed payment amount for each pay period. These payments could be made monthly, quarterly, etc.
Variable annuities are based on how your money performs in a mutual fund. These also offer payments at regular intervals, but could be more or less than a comparable fixed annuity depending on market forces.
SPIAs can adjust to rise with inflation; this option will incur a higher premium, or lump sum up front.
SPIAs are tempting. They guarantee a fixed income, and can make retirement planning easier because they are predictable. But predictability in financial products comes at a cost.
Considerations for a SPIA
If you hope to benefit from a SPIA, live longer than your insurance company thinks you will. You should also hope that your insurer lives at least as long as you do— the products are “subject to the claims-paying ability of the issuer,” per Vanguard’s disclaimer. So if your insurer goes out of business you may not receive your payments. Some states offer guarantees for annuities up to a certain amount, but these guarantees differ from state to state, ranging from $100-500K, and have their own idiosyncratic rules, which could expose you to risk if you, for example, move out of the state where your SPIA was purchased.
If you anticipate you may need cash access to large amounts of your retirement savings, or if you don’t have much cash savings, a SPIA may not be a good idea. Once the premium is paid, it is not refundable (or if it is cash-refundable, will come with a steep price tag). If you die a week after you make this premium payment you will not benefit from the annuity and your estate will have lost the premium.
Transaction fees, surrender fees, administration fees, and inflation can all chip away at the rate of return on a fixed annuity.
In summary, SPIAs can be a good source of fixed income if you think you may outlive your retirement savings, have enough cash on hand in case of an emergency, and do your research for state guarantees.