When it comes to retirement planning, too often the focus is placed only on savings. But that's just one side of the equation.
You're saving so that you can ultimately spend. That means you'll need to anticipate how much you'd like to be able to spend, and for how long. Fortunately, life spans are increasing. However, that can also mean there's a real risk that you could outlive your savings.
One form of protection is a fixed annuity. The surface attraction is easy to understand because an annuity guarantees a steady income stream. But these products are complex and require purchasers to turn over large chunks of their savings, with only a limited ability to withdraw funds. Add the additional wrinkles of variable annuities, and complex fee structures and it's clear that annuities can be problematic if not selected carefully.
There's a real need for other options. And that's motivated retirement plan providers to come up with alternatives that can guarantee a steady income for at least some workers.
Concerns about running out of money heightened as the 2008 stock market meltdown cut 401(k) savings by an average 30 percent. Those who kept their money in stocks have recovered some of their losses, but the challenge becomes how to better hold on to those gains.
"We say to workers, now, 'You're responsible as an individual to put money in and take money out,'" says Jeff Maggioncalda, CEO of Financial Engines Inc., a 401(k) investment adviser. "The thing is no one has told them how."
That's why more 401(k) plans are adding bells and whistles, including one-on-one financial counseling sessions, Internet-based help, and toll-free telephone advisers.
Still, much of that help is geared toward saving enough. Information about how to plan to live off the money once retirement day arrives often is still lacking.
Discussion about adding an annuity-like feature that would guarantee income to 401(k) plans accelerated last year. The Department of Labor proposed changing federal rules to allow it, but many workers feared the government was going to somehow require the purchase of an annuity and they didn't want any part of it. Hundreds of workers wrote letters telling the government to butt out of their retirement plans. The proposed rule changes are still pending.
Another obstacle to annuities in employer provided retirement plans is that the companies are hesitant to tie their plans to an insurance company because it introduces new legal responsibilities many companies don't want to deal with.
Retirement plan providers are trying to come up with alternatives to annuities that provide enough income in retirement; offer some safeguard against inflation and market downturns; and don't tie up all the savings.
"Everybody's trying to innovate and see if they can manage to find something that will encourage people to plan carefully," says Dallas Salisbury, CEO of the Employee Benefit Research Institute, a nonprofit research group based in Washington
— Financial Engines introduced its Income+ program in late January, which offers the option of professional assistance with your 401(k) plan.
In the transition to retirement, about 65 percent of the portfolio is invested in a variety of bonds with differing maturities. It's designed to fund steady monthly payouts between ages 65 and 84.
About 15 percent of the portfolio is invested in bond funds. That money's set aside so that at age 85 the participant can buy an annuity if desired to continue the payouts for life.
The remaining 20 percent is invested in stocks at age 65. That money gradually shifted to bonds so that stock exposure is zero by the time the participant reaches 85.
This plan provides at least some potential to benefit from a rising market, but insulates the portfolio from massive losses if the market plummets.
Providers of 401(k) plans including J.P. Morgan Retirement Plan Services, and business consultant Mercer are starting to offer this option to clients.
— Fidelity Investments unveiled its own initiative this month. It includes an online tool to help investors assess income needs, structure a portfolio, and develop a withdrawal strategy.
After determining an investor's savings and goals, the tool combines a variety of bond funds of varying maturity lengths, target-date and asset allocation funds to reach the goals. Managed accounts and annuities may also be used in the mix.
The company said more than 25,000 of its clients have adopted the Income Strategy Evaluator program, providing access to more than 10 million participants.
WHAT TO DO
It's doubtful that any one option will ensure that you don't run out of money.
Start with the basics by calculating what's needed for housing, food and transportation in retirement. Figure out what Social Security will provide and then consider buying an annuity with enough of your savings to provide monthly income sufficient to cover the necessities, says Noel Abkemeier, a fellow with the Society of Actuaries, a 21,000-member professional association. Most people have difficulty understanding how much monthly income their nest egg will generate, he says. They usually think it's more than what's mathematically possible.
Consider these steps to begin the process of thinking about retirement spending:
—Use a calculator to determine how much you should save. AARP offers a detailed calculator at http://tinyurl.com/238dlsq .
—Begin thinking about how you'll spend your money in retirement. Ask yourself: What lifestyle do you want to maintain? What's the cost of basic necessities and how can you cover them? You can also check the Social Security website to estimate what you'll receive: http://www.ssa.gov/OACT/quickcalc/index.html.
—Learn the basics of annuities and think about whether they're a suitable option. The Securities and Exchange Commission offers some background: http://www.sec.gov/answers/annuity.htm.
—Don't forget to diversify your assets as you begin to withdraw money for expenses, says Salisbury, the EBRI chief executive. As long as you're investing it's essential to protect your savings, particularly later in life.
"I subscribe to the view that everything you do should have diversification," Salisbury says.
He and wife have annuities that provide a fixed income at a later specified age. Salisbury said they bought the annuities from different insurance companies to spread out risk. That way if one insurance company fails, they haven't lost that entire portion of their savings.