The decision of whether or not to utilize investment capital to purchase immediate annuities versus making systematic withdrawals from an investment portfolio to maximize retirement income will, and should be, a frequent question arising in retirement income planning. Employer-sponsored retirement plans will often offer annuity payouts or a lump sum, which can be rolled over to an IRA where the owner will also have the opportunity to provide income from investment capital either as a systematic withdrawal of income from invested assets or by purchasing an immediate annuity for lifetime income. The same options are available when considering use of personally-held investment capital.
One of the reasons that a systematic withdrawal methodology is often considered the “automatic” choice is that the assumed rate of withdrawal is presumed to be as high as an annuity payout. For example, a straight life annuity will pay an age 65-year-old male gross cash flow in June 2011’s interest rate environment of about 7.5% per year, or about 5.5% if indexed to CPI. A portfolio of investments could be set up to withdraw any amount per year, but research has shown that based on historical market returns, annual withdrawal rates above about 4.5 to 5% can put clients in jeopardy of outliving their portfolios if the withdrawals keep pace with inflation.
In future postings, we will discuss in more detail the pros and cons of:
- Systematic Withdrawals from an Investment Portfolio of Marketable Securities (versus Immediate Annuities)
- Single-Premium Immediate Annuities (versus Systematic Withdrawals)
- A Combination of Fixed Immediate Annuities and Systematic Withdrawals