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Annuities: Enhancing Income for Seniors

Retiring with Annuities

Annuities are an option with today’s low fixed income rates, as seniors are scrambling to find safe investments that offer decent after-tax income. For the fortunate few who have defined benefit (DB) pension plans this may not be a concern, because they provide guaranteed monthly income for as long as you live. If you’re a member of one of these plans at a financially solid employer, you have no worries about outliving your money.

A life annuity is like a DB pension plan, as it provides income for life and takes the market risk out of the equation. Annuities can make sense for two reasons. One, it reduces risk of people outliving their savings because it hedges against longevity. Two, the money put into an annuity is insulated from market volatility and therefore immune to emotion driven mistakes such as selling after a downturn. The only real risk with an annuity is inflation, (Michael James discusses this in his blog) which can  potentially be covered off by investing some of your other retirement savings in equities.

One strategy is to ladder annuities by investing into separate contracts purchased over a span of time. This can minimize the risk of locking in during periods of low rates, plus increased the potential of increased annuity income with age.

It’s worth noting that annuity payouts are influence by long term interest rates, which means they’re higher than the 1-5 year GIC rates that people typically focus on.

Monthly annuity payments vary with age. For example, payments range from $453 at age 60 to $649 at age 75 for a male investing $100,000 in a non-registered prescribed annuity. Payments from a registered annuity (purchased with RRSP money) would be similar, but fully taxable. These amounts constantly change, so it pays to lock in a guaranteed rate if possible.

Some people worry about locking their funds in an annuity then dying too soon. It’s true that without a guarantee period, an annuity stops payments when you die. This risk can be offset by purchasing an annuity with a guarantee period such as 10 or 20 years. This will continue to pay income to your beneficiary if you pass away. Another option is a principal protected annuity, where the principal minus all annuity payments would be paid to the named beneficiaries on premature death.

Another common objection to annuities is the loss of control of your money. With an annuity you trade flexibility for regular guaranteed income. For this reason, annuities are best used as a part of your retirement investment strategy, usually no more than 25% of available assets.

There are other options that can be suited to individuals or couples. Joint and survivor annuities continue payments for life to your spouse if you die.

Not all good things last. CRA is changing the rules which will result in less income as more of it will be taxable. Annuity taxation is currently based on 1970 mortality tables, but in 2016 they will be based on 2000 mortality tables, as we are all living longer now.

I would recommend that seniors looking for guaranteed income sit down with a qualified advisor to determine if investing a portion of their retirement savings into an annuity might make sense for them.  For further information on annuities, check out Rob Carrick’s article in The Globe and Mail.


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