Learn about Pension Risk

Creating Your Own Personal Pension

Welcome back to the Safe Money Mindset Newsletter! This edition is especially crucial as we address a growing concern in American retirement planning—the shift from traditional pensions to 401(k)s and the implications for retirees.

The Retirement Landscape: A Shift from Stability to Uncertainty

There was a time when retiring in America almost guaranteed a pension. Employees would work for decades, and in return, they could count on a steady pension check to support them through their golden years. This system mirrored their working lives—regular paychecks that continued seamlessly into retirement. However, as life expectancies increased, these pension funds began to strain under the prolonged financial commitments, leading many companies to phase out pensions in favor of 401(k) plans.

The transition from pensions to 401(k) plans marked a significant shift from employer-managed retirement income to individual responsibility. While this model empowers individuals to take charge of their retirement savings, it also introduces substantial challenges. Most notably, the average worker is not accustomed to managing a large lump sum of money and making it last for decades—a stark contrast to the bi-weekly or monthly paycheck they’ve relied on throughout their careers.

As a result, many retirees find themselves in precarious financial positions, with their life savings dwindling faster than anticipated. This has led to an alarming trend of retirees needing to return to work, an outcome that retirement planning aims to prevent.

Introducing Annuities: A Solution to the Retirement Income Dilemma

Given these challenges, it’s clear that a new approach is needed—an approach that can provide the stability and predictability that traditional pensions once offered. This is where annuities come into play. Annuities can mimic the function of the old-school pension, providing retirees with a guaranteed income stream for life.

The Corporate Approach: Pension Risk Transfers

Interestingly, even corporations that still manage pensions are increasingly turning to annuities to ensure long-term financial obligations to retirees are met. This strategy, known as a Pension Risk Transfer (PRT), involves transferring pension liabilities to an insurance company, which then takes on the responsibility of making the pension payments through annuities. For instance, in 2023, AT&T transferred approximately $8 billion to Athene, covering about 96,000 retirees. Similarly, Lockheed Martin transferred almost $5 billion to the same insurer between 2021 and 2022. This move ensures that retirees receive their pensions without the original company bearing the long-term financial risk.

This corporate strategy highlights a crucial point: if large corporations see the value in securing pensions through annuities, individuals can adopt a similar approach. You don’t have to stick with companies like Athene; the market is full of various insurers offering a multitude of annuity programs. Choosing the right one can provide the same level of security and predictability that a traditional pension would.

What Are Annuities?

Annuities are financial products sold by insurance companies designed to provide a steady income stream, typically after retirement. By making a lump sum payment or a series of payments, you can purchase an annuity that will pay out in regular intervals for a specified period or for life.

Types of Annuities

  1. Immediate Annuities: Start paying out soon after the initial investment. Ideal for those who are at or near retirement and looking for immediate income.
  2. Deferred Annuities: Allow your money to grow tax-deferred before the income payments begin at a future date. This can be a strategic option if you’re planning for long-term growth.

Advantages of Using Annuities to Create a Personal Pension

  • Guaranteed Income: One of the most compelling reasons to consider an annuity is the guarantee of income for life, which mimics the reliability of a traditional pension.
  • Tax Deferral:With deferred annuities, you won’t pay taxes on the earnings until you start withdrawing money, allowing your investment to grow without immediate tax implications.
  • Flexibility: Many annuities offer options to choose when you start receiving payments, and how often, allowing you to tailor your income stream to your retirement needs.

Annuities offer a unique opportunity to secure a predictable and reliable income stream in retirement, resembling the traditional pensions that are becoming less common. As with any investment, it’s crucial to understand the terms, benefits, and risks associated with annuities. Consulting with a financial expert can help you navigate this complex landscape and make an informed decision.


Weekly Tip:

Evaluate your retirement income strategy. Are you prepared for a stable financial future? Does your company offer a pension? Do you like the idea of a guaranteed income source for the rest of your life? Consider how adding an annuity might enhance your retirement plan and provide the peace of mind that comes with guaranteed income.

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P.S. Any guarantees that are mentioned in this article are based on the financial strength and claims-paying ability of the issuing insurer.

June 27, 2024

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