Should You Buy an Annuity in Retirement?

Andrea Thompson explains why annuities can help retirees spend with more confidence.

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You recently wrote something about annuities and it was music to my ears because I have argued forever that although annuities have drawbacks, no question, and I do not think people out there should be jumping in to annuities with all of their monies, et cetera, there are a role they can play in financial planning, in retirement planning.

Talk to me a little bit about your thoughts.

When I’m doing retirement planning for someone, the biggest drawback that I see in people’s plans is when they don’t have enough fixed or guaranteed pension income, and it leads them to not want to spend their own money.

There is a gigantic fear of decumulation or withdrawals. When people see their money go down, nobody likes that feeling, right? It’s psychological. Everybody likes to see their money go up. Nobody likes to see it go down. So it’s this shift that nobody really talks about when we move to retirement is we have to normalize that it’s okay for your money to go down.

That’s why we saved all that money, is so we could spend it. The problem though, is that people are always worried about running out of money, and therefore it leads them to not spend. And that’s why the research and data out there shows that retirees automatically become more frugal because they are worried about out- outliving and outspending.

So annuitizing or purchasing an annuity, which is a form of a defined benefit pension plan, is a wonderful way of being able to pay yourself and continue to pay yourself first like a salary while you’re retired and guarantee your baseline spending the way that I like to look at it for retirees is this.

When we go back to the cash flow conversation we were having before, we have our committed spending, which is all the really boring, unemotional stuff that we spend money on, and then we have our spendable bucket, which is all the emotional and fun stuff that we do, which can include groceries, by the way, uh, because we can shop at Pusateri’s or we can make other choices.

That’s right. There’s some discretion for it.

There is. So if you can cover your committed or baseline or boring expenses with CPP, Old Age Security, maybe Social Security, and a defined benefit pension plan, and an annuity if you don’t have the other ones, then you can create a baseline that will cover all of your bills so that you don’t have to be worried that you’re not gonna be able to pay your bills if you live until you’re 98.

Your bills are covered by defined benefit pension plans. Then all the fun stuff you do, all the fun spending can then be funded from your lifestyle assets, so from your investment portfolios, from your retirement plans, from your savings. And that gives people the, the license to feel more comfortable to spend freely knowing that their, their, you know, their property taxes aren’t coming from, um, their investment portfolio, for example.