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The Cost of Guaranteed Income






When you "annuitize" an annuity, you receive a known income stream during your lifetime (or longer if you buy additional riders). In exchange, you give up the right to the principal invested, including the ability to pass along the invested amount to your beneficiaries.

If, instead, you invest your assets outside of an annuity, you can likely earn a greater return, AND retain all or part of your "principal" to pass along to your heirs. Of course, you also retain the risk of outliving your assets.

So the big question is: What is the likelihood of an investment portfolio "beating" the income stream of an immediate annuity?

A recent article* attempts to answer this question. Based on historical investment returns going back to 1926, a balanced portfolio would have produced returns greater than or equal to an annuity's income stream in 94% of the 30-year periods analyzed. This means that 94% of the time, the investment income and capital gains would have paid an amount at least equal to the annuity; with the entire initial investment (and possibly more) intact to pass to beneficiaries of your estate.

The investment portfolio also has other significant advantages:

Flexibility: You can increase or decrease withdrawals over time to adjust for changing circumstances.

Tax: You can produce long- term capital gains (generally taxed at a lower rate than ordinary income); and your beneficiaries would receive a "step-up" in basis upon your death. With an annuity, withdrawals trigger ordinary income tax and there is no step-up in basis at death.

By buying an annuity, you are transferring investment risk to an insurance company, in exchange for a guaranteed stream of income. This can be a real and valuable benefit in certain circumstances. Just make sure you understand what you are giving up in the transaction.

* "Should Clients Annuitize Their Retirement Assets?" by Charles J. Farrell; Investment News 7/16/2009.



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Michael Byman, Alexandria Capital
1030 15th St NW, Suite 450
Washington, DC 20005
202 391 0174

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