(PUB) Morningstar FundInvestor

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Should You Add Longevity Protection to Your Retirement Plan? Portfolio Matters | Christine Benz

The new regulations put some specific parameters around the use of longevity annuities within IRA s. The annuity payments must commence by age 85 at the latest, and the premiums paid for the annuity cannot amount to more than 25% of the individual’s total balance, or $125 , 000 , whichever amount is less. The annuity also has to be very plain-vanilla: Inflation- adjustment riders are allowable, but the payments can’t be variable or equity-indexed. Importantly, the new regulations also clear up what had previously been the key impediment to putting longevity annuities in IRA s and company retirement plans: the role of required minimum distributions. Under the previous rules, because the longevity annuity doesn’t begin paying you anything until later in retirement—often well past the RMD beginning date of age 70 1 / 2 —any money that you had sunk into it could not be used to meet RMD s. Under the new regulations, the longevity annuity is deemed to satisfy the RMD requirements. Because retirees have much of their portfolios inside so-called quali- fied plans, the new regulations effectively clear the way for longevity annuities to become much more prevalent in retirees’ plans. ‘The Most Pure Play of Hedging Longevity Risk’ For those concerned about outliving their assets because they could live a very long time—well into their 90 s, for example—longevity annuities can help provide peace of mind. A retired investor who owns such an annuity can plan for his portfolio of stocks, bonds, and funds to last through a given time horizon—say, until age 85 . If the individual is still living beyond that date, the annuity payments will help supply income in addition to whatever cash flow the (possibly dwindling) investment portfolio can provide. David Blanchett, head of retirement research for Morningstar Investment Management, says that QLAC s “are the most pure play of hedging longevity risk” and are more effective than immediate annuities for the purpose of longevity-risk hedging. “Many retirees don’t need a guaranteed [source of] income immediately; they want certainty around

Running out of money consistently rates as one of retirees’ top worries: When respondents in an Allianz survey were asked which they feared more, death or outliving their assets, 61% said they were more worried about running out of dough. Thus, it’s probably no surprise that retirees and pre- retirees are so interested in maximizing any income streams that will last throughout their lifetimes— even if they end up living to be 100 . Articles about wringing the most lifetime income consistently garner some of the highest page views on Morningstar.com. Lifetime income sources like Social Security, pensions, and income annuities provide a hedge against outliving one’s assets, guaranteeing that there’s at least some money coming in the door even when investors’ portfolios begin to run low. Regulations from the U.S. Treasury Department released in July pave the way for pre-retirees and retirees to obtain additional longevity protection by allowing them to steer part of their IRA s into what are called qualified longevity annuity contracts, or QLAC s. In contrast with immediate annuities, where you fork over a lump sum of cash and the insurer immediately begins sending you a stream of payments that will last as long as you live, a longevity annuity starts making payments at some later date. For example, you might buy the longevity annuity when you’re 65 , but it might not begin making payments to you until age 85 . Because the time period that the deferred annuity will pay out is shorter than is the case with an immediate annuity—and because the insurer can earn some interest on your premium before it has to start paying you—it’s only logical that longevity- annuity purchasers can receive a substantially larger annual payment with far less of a cash outlay than would be the case for immediate-annuity purchasers.