Ep. 265 – Annuitization Versus Deferred Annuities in Retirement


In this Episode of the Secure Your Retirement Podcast, Radon and Murs discuss the concept of annuitization and immediate annuities versus deferred annuities. Annuities can come from different sources, such as insurance companies or municipal pensions.

Listen in to learn how immediate annuities work, their pros and cons, and risks such as the potential loss of the principal if the annuitant dies early. You will also learn how deferred annuities work, the fixed type of deferred annuities, and why they make more sense for retirement planning than immediate annuities.

In this episode, find out:

  • The concept of annuitization and immediate annuities versus deferred annuities in retirement planning.
  • Understanding that annuities can originate from insurance companies or pension plans.
  • Annuitization – converting a lump sum into an income stream, plus the implications of this conversion.
  • Various protections that can be added to immediate annuities, such as joint annuitization and period certain annuities.
  • How deferred annuities allow the principal to grow over time before withdrawals begin.
  • Fixed deferred annuities – guarantees the principal and offer growth linked to market indices without market risk.
  • The financial suitability of immediate versus deferred annuities for different types of savers.

Tweetable Quotes:

  • “You want to be very careful about using the word annuitization because sometimes people are receiving income thinking it’s annuitization and it’s truly not.”– Murs Tariq.
  • “If you’re a good saver who’s saved a good amount of money, it’s probably not going to make the best financial decision to do an immediate annuity.”– Radon Stancil.
  • “Should a person put all their money into an annuity? Absolutely not. Not in our opinion. But should they consider an annuity? Possibly.”– Radon Stancil


If you are in or nearing retirement and you want to gain clarity on what questions you should be asking, learn what the biggest retirement myths are, and identify what you can do to achieve peace of mind for your retirement, get started today by requesting our complimentary video course, Four Steps to Secure Your Retirement!

To access the course, simply visit POMWealth.net/podcast.

Here’s the full transcript:

Radon Stancil:  Welcome to Secure Your Retirement. We’re very happy to be able to talk with you today about a topic that we get quite often actually when it comes to planning for income in retirement. And the topic is around what is called annuitization or an immediate annuity, and what’s the difference between that kind of a scenario and being in a deferred annuity. Now, for clarification, if we talk about something like an annuity, that could not necessarily have to be with an insurance company. It could be like a pension if you had worked for a municipality, maybe like a state, a city, a federal government, a lot of times you’re going to get an annuity payment that’s not necessarily coming from an insurance company, but it looks and acts just like what you would get from an annuity. So it can get confusing. Sometimes clients will come in and they’ll say… We might talk to them about an annuity for a particular reason, and then they’ll go, “Well, wait a minute though. I’ve already got a pension. Why do I need another annuity?” 


  So that’s why we thought it would be important for us to talk through these two different types of setups because they are very different. Let me just help you to think about it first, and we’re going to talk in the context here of an actual annuity. If you think about an annuity and you say… There’s two major types of annuities and think about it this way. You’ve got one side that is an immediate annuity, an immediate think about the word immediate means that I put a lump sum of cash into it and it’s going to pay me out in annuity, it’s going to pay me out of payment. The other side is called deferred. That means I’m putting money in and I’m going to let it defer for a while. 


  So let’s just talk, first of all, let’s just stay on this side of an immediate or even a conversion over to what we call annuitization, what that looks like, and kind of the pros, cons, and different aspects of what that would entail. So I’ll turn it over to you, Murs here for just to kind of bring us up to speed and we’ll just have a nice conversation back and forth just to try to help our audience visualize this. So first of all, what does annuitization look like, whether it be immediate or we convert at some point? 


Murs Tariq:  Yeah, so annuitization is a very technical term and it basically means that we are converting something into an income stream and we can play with how that income stream is going to work and how much protection we want to build into that income stream. But the simple definition is we’re taking our lump sum of cash and converting it into an income stream. And so that’s what annuitization is. You want to be very careful about using that word annuitization because sometimes people are receiving income and they think it’s annuitization where it truly is not. The big thing here is that you’re giving up your access to that lump sum of money. So for example, if you gave the insurance company $100,000 to go into an immediate annuity, you give them the 100,000, they’re going to run their numbers based off of how old you are, they’re going to run their math and they come back to you, and say, “We can give you…” And I’m making this up. 


  This is not factual at all. I’m just making a number for the example. We can give you 500 bucks a month guaranteed for the rest of your life, but if you were to pass early, then there is nothing that goes to your beneficiary. That lump sum of 100,000 has been converted to an annuitization into an income stream guaranteed for the rest of your life no matter how long you live. This is usually where someone would have that saying of, “Well, if I live a long time, I win and if I die early, the insurance company wins.” Let’s not worry about that because, at the end of the day, all of this is done very actuarily sound. And so that’s the simple way of looking at how do I get my income stream from an annuitization type of vehicle. And earlier I said, you can start building in protections into it because what if someone says, and I kind of agree with, “I don’t want to take that risk. What if I get hit by a bus tomorrow? I don’t want to give up my 100,000. I only got one payment out of it.” 


  That’s where you can start to buy protection within your annuitization. So now you can start saying, “Well, no, I want to cover myself, but just in case something happens to me, I also want to cover my spouse.” Now we’re talking about joint annuitization or it’s sometimes called survivorship, and anytime we buy more protection, it’s going to change our number. So we want to be able to think that through. So maybe that 500 a month guaranteed for the rest of your life. If we try to add in the spouse, maybe it goes to, I don’t know, $425 or 400 bucks a month guaranteed now for the rest of both of your lives. 


  So if something happens to you tomorrow and your spouse is still around, he or she is now covered for the rest of their life as well, and there’s other vehicle or protections that you may have heard of that I don’t think we need to spend too much time on, but there’s period certains where you could buy the income stream for a guaranteed period of time. So let’s just go with the example of a 10-year period certain. What that means is that I’m guaranteed this income stream for 10 years regardless if I am here or not. So you get to assign beneficiaries. So let’s say- 


Radon Stancil:  Yeah, before we keep going, I’m want to just step back one second because we were going through a lot of different things there. So let’s just keep it super simple about yourself and then we’ll talk about this, we’ll come back to this period certain. So option number one, I could convert this money, this lump sum of money into a lifetime payment based on my life. So what they would do is, okay, we’ll use my example. I’m 51, they were going to look at my life expectancy, and they’re going to say, “Here is your income if you just take it for your life.” So I go, “Okay, that’s a great income.” 


  However, let’s say that I start my income, I give them $100,000, I start my income and I die next month it’s all gone because it was based on me getting this lifetime benefit because the chances are I’m probably going to live awhile unless I have something major crop up. But if I were to happen to get in a car wreck, have something happen next month, all gone. So highest income, highest possible risk if I were to die early. Okay, so now I’m thinking about that. Now I got this going on and I go, “Wait a minute, what if something does happen to me early and I start getting worried about?” Now that takes us into a period certain, so I just wanted to give that basis. So pick back up on the period certain. 


Murs Tariq:  So the period certain is now I want to protect myself or I want to protect my money in case I’m not here. And let’s just say you picked that 10-year period certain, again, the insurance company is going to look at your age. They’re going to look at their risk factors and say, “Okay, well if you want protections put into place, it’s going to reduce the amount that you’re going to receive, but we’re going to guarantee it for that period that you selected could be 10 years, 20 years. So let’s go with the 10 years, and if I die in year one, I’ve received my payments for that one year, but then I’m going to have beneficiaries assigned to it. Maybe that’s my spouse or maybe it’s kids. Whoever it is, are going to receive the remainder of that nine-year payout to satisfy that period certain that I elected. 


  So you’re starting to cover some risk. So naturally, if I’m just covering my life and no guarantees of payments or anything like that outside of my own life, that’s going to be the highest payout. As I start to add in protections or period certains or survivorship, then it’s going to start to reduce my payout because now the insurance company has more risk to cover. It’s not just them covering you. They’re either covering a guaranteed period of time or they’re covering someone else’s life like a spouse. So the numbers are going to fluctuate based off of that. 


Radon Stancil:  And so now let’s think through some math on the whole thing. I’ll give you an example. I got a client who had bought an immediate annuity prior to becoming our client, and when you do the math on… They did the math on it. In fact, they told us about it. They said, “I did the math on this, and if I get this income stream off the amount of money that I gave the insurance company, I’ve got to live to about 102 for me to get my money back.” So maybe a layer there of peace of mind in a sense, you’re going to get income all the way to 102, but really it was kind of returning his own money until he was 102, and we’re talking about just the basis this is not including interest. And so as he got thinking about the math on that, he said, “That doesn’t really make sense to me.” 


  Unfortunately, he’s in it. And so now there’s some very heavy difficulties to even look at getting out of that. Nine times out of 10, you cannot get out of that. So the idea is we want to do the math upfront, and I want to say this, I think this for the vast majority of our clients who are good savers and have a substantial amount of retirement money, an immediate annuity is going to be very difficult for it to make sense financially mentally that’s a different thing. That kind of brings me to hanging. Sometimes people say, “Should I pay my house off?” Well mathematically, if I’ve got a two-and-a-half percent interest rate right now, I’d probably tell you no. But if the person says, “Hey, you know what, though? I’ve got the cash, it’ll just make me feel better.” Well then maybe it might make sense to pay the house off just to make you feel good. 


  So an immediate annuity, if you’re a good saver, you’ve saved a good amount of money, probably not going to make good the best financial decision to do an immediate annuity. Now remember we started this off and said, there’s this whole other world because we might still use an annuity, but we would use a deferred annuity. So let’s just think about that term deferred. What I mean is now I’m going to put money in. I am going to allow interest to grow, and I’m going to defer when I take withdrawals out of the annuity. So let’s just talk a little bit Murs if you could, how we would utilize a deferred, because we’re basically on one side saying, if you’re a great saver, might not want to do an immediate, but now we’re going to say, if you were a great saver, you might want to look at an annuity, but it’d be a deferred. So maybe we might just talk a little bit about how those get utilized. 


Murs Tariq:  Yeah. And now once we’re in the category of deferred and not saying, “I need immediate income,” or, “I need to annuitize.” Now, the whole conversation changes of, well, what are we looking for out of this deferred annuity? Now we’re looking at different investment ideas within the concept of the annuity space. And so typically how we’re going to use them in the deferred world, there’s fixed, which means your principal is guaranteed. And then there’s variable, which means you’re in all essence investing in the stock market through the chassis or through an insurance company in a variable annuity. For the purposes of today, let’s ignore that variable side because that is a more complex side that has a very specific purpose in our eyes, which we have done previous podcasts on, and we’re happy to talk about those. Today let’s just talk about the fixed side. In the fixed side, there’s really two worlds that you can really go down into. One, and how we approach them is what do we need this product to do? 


  What do we need this investment to do for us? Do we just need it to be a safe place to grow money and give us some guarantees, or do we need this to be a safe place to grow money and then at some point generate a guaranteed lifetime income stream for us? And so we have those conversations with clients depending on the route we would go. I would tell you most of our clients today lean towards the needing of, I just need a safe place to put some money to know that the principal is protected, to let it grow. Kind of like as a bond alternative type of investment, nothing fancy, four to 7% on average over a 10-year period, but without the risk of the stock market, without the risk of the bond market, I would just like it as a compliment to my growth bucket or to my stock market investments. 


  And so the deferral period of that is, well, you put money in, you put a hundred thousand in 500,000 in whatever that number is, and it just sits there and it has parameters as far as how it’s going to grow. It’s linked to an index like the S&P 500, and you get to participate in that growth of the index. And the big piece there is that the promise on the immediate side, the promise of the insurance company is we’re going to guarantee you an income stream for your life or how much protection you want to buy. The promise on the deferred side is we’re going to guarantee your principal a key difference there. 


  We’re not giving up our principal, we’re not converting our principal into a cash flow here. We’re going to guarantee your principal that it will not go below what you put in, and we’re going to give it a mechanism for growth as well. And so that we believe works really well, compliments really well with something that is a little bit more risky, which is the stock market. Stock market can do really good one year. It could do really poor the next year. And so we believe putting those two together now makes a plan that is designed for peace of mind and for comfort and for the ability to sleep well at night. 


Radon Stancil:  So ultimately, should a person put all their money into an annuity? Absolutely not, not in our opinion. But should they consider an annuity? Possibly, we come down this whole path of everyone has their own plan. Everybody has their own situation. What we do in our role is to say, “Hey, what should we do here?” Let’s walk through all of the different options that you could have. Look at it in your plan and say, “Does it make sense and does it not make sense?” And then if it does, then we talk about, well then what are the options out there in the world of annuities? So I hope this has been helpful just to help you think through the idea. So if you’re hearing the term, you know that there can be multiple scenarios as to how you would use it. Don’t forget that we have a whole blog written on this very topic as well. 


  So you can go to our website, pomwealth.net, go to the blog page. You’re going to have a whole blog on this. If you ever do have any questions, whether you’ve already have an annuity or you’re looking at the idea of an annuity or anything around this idea of planning for retirement, feel free to reach out to us. You can go to our website, top right-hand corner, click on schedule a call and Murs and I our schedule will come right up and you can schedule that, and we’d be glad to hop on a 15-minute phone call, determine which way we might want to carry the conversation from there. We hope you have a great week. We’ll talk to you again next Monday.