Investing for retirement doesn't have to be hard. You read up on how to put together a diverse mix of low-cost index funds, bonds, etc. Then keep setting aside all you can into that retirement account. Easy.
But when you actually retire and start spending that money, that's like going from playing checkers to playing chess. It can get a lot harder.
Here's the big pickle: You don't want to run out of money. But how can you know how much it's safe to spend when you might live for another five years — or 25 years?
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Is It All A 'Crapshoot'?
Liz McMunigal and her husband, Harry, are getting ready to retire so they're well aware of this Catch-22.
"My father died when he was 52 of lung cancer and he was never a smoker; my mother is 95 and still living," McMunigal says.
She and her husband are both lawyers in Wyomissing, Pa. They say they're not super-rich corporate lawyers, but they have saved a nice nest egg.
And like millions of other Americans, they're facing this puzzle. They want to enjoy retirement and not be so overly frugal that they miss out on traveling and having fun. But they don't want to blow their savings too soon, either.
"It's all a crapshoot because we don't know what our life expectancy is going to be; we don't know what our stock market is going to do," Liz McMunigal says.
The couple recently sat down with some financial advisers to try to figure this out. McMunigal laughs when she recalls the booklets the advisers prepared based on their analyses.
"I think I could probably build a nuclear bomb easier than understanding these things," she says.
Solving The Retirement Puzzle
To get a better understanding, we went to Yale University to talk to David Swensen. He manages Yale's $26 billion endowment and has written a book on investing for everyday Americans. And he hears this same question all the time: How much can I spend in retirement?
It's a really hard question, Swensen says. But he's gotten interested in one thing that can help: an advanced life deferred annuity.
Annuities have been around for a long time. They have a bad reputation for high fees and being hard to understand.
The basic idea is this: You pay a company (often an insurance company) a chunk of money upfront, and it agrees to write you a check every month to give you an income for the rest of your life.
These days, you can tell the company when to start paying you on the annuity — and wait until you are, say, 85.
Of course, Swensen says, "there's a chance you're not even going to make it to 85."
And that's exactly the point. For not so much money upfront, you should be able to get a pretty nice monthly payment after age 85. You'll have that, plus Social Security. And it becomes much less of a brain-bender to figure out how much of your life savings you can safely spend.
"Let's say you're 70, and you've got this deferred annuity that starts at age 85," Swensen says. "That's a simple problem to solve. The longevity risk is taken care of by the deferred annuity."
Dean Takahashi is the senior director managing Yale's endowment and works with Swensen. And Takahashi has been thinking about this, too — to help school employees figure out retirement.
"The nice thing about the deferred annuity is that it allows one to spend money when they really want to," he says.
In other words, earlier in retirement — when you're healthy and depending on your budget — you might feel you can visit the grandkids more or take that Caribbean cruise, because you've paid for financial security later on.
Annuities: The Good, The Bad And The Ugly
In general, annuities can be a smart move, economists say, because the longer you live, the more you get what's called a "mortality credit." That is you can benefit a lot from people who paid in and died sooner.
Swensen and Takahashi would like to see more of these advanced life deferred annuity products for people — but, they stress, with more competitive and transparent pricing. Opacity and complexity are big problems with many kinds of annuities.
"There are variable annuities and fixed annuities and life annuities and so many different types of investments or vehicles combined with the word 'annuity,' and it's extraordinarily confusing," Takahashi says.
One expert we spoke to said to stay away from variable annuities — they're supercomplicated and it's easy to get a bad deal. Fixed annuities are more straightforward and easier to shop around for.
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