Another Retirement Income Strategy to Avoid “Money Death”

After the black swan market events of 2008-2009, baby boomers and financial planners continue to search for new strategies for providing a secure retirement income. I have written about many of them, including the “Failsafe Retirement” plan that we are using.  This week I read about another combination strategy for avoiding what the authors refer to as retirement “money death.”

“Money death” is simply a shock-value way of saying that a retiree has run out of money so that his or her basic retirement income needs are no longer being met. The authors of the article that describes their proposed strategy also use the phrase “boomers behaving badly.” The referenced “bad behavior” is a failure to create and implement a plan that to support yourself when you retire. (More than likely, it is a failure to create any plan.)

The strategy is interesting to me and should have appeal to baby boomers who are (a) close to retirement and (b) have already have significant retirement investments in their nest egg, but not enough that they can survive on an ultra-conservative portfolio. What they may not have is (c) a plan to make their nest egg last.

The authors of the strategy note first that trying to survive a lifetime on a low risk retirement portfolio is probably not going to work for most retirees. This is particularly apparent in today’s low interest rate economic environment where Fed policy continues to punish savers in favor of spenders.

What is proposed, then, is this: First, boomers should create a retirement investment portfolio that is heavily weighted in dividend-paying stocks and high-yield corporate bonds. More important, rather than decreasing equity and corporate bond exposure as retirement approaches and begins, this portfolio should remain in place. This creates a reasonable possibility of achieving returns that will support your retirement income needs. This brings us to the second part of the plan: Buy a deferred fixed annuity now as “longevity insurance.” The deferred annuity functions as a safety net, in case the higher risk retirement portfolio crashes and burns (e.g., 2008 all over again.)

A key to the second step is purchasing the deferred annuity at least 20-30 years before you will need it, so that the cost-benefit ratio is quite low. For example, someone who is 60-65 could spend $100k now for an annuity that would pay $75k annually beginning at age 85. The authors caution that this part of the plan would only make sense if the cost of the annuity represented no more than 10% of your wealth. After all, once you spend that $100k, you won’t see any of it again even if you died way before age 85.

The big problem/risk I see with this plan is inflation. Let’s assume that at age 60 you purchase a deferred annuity that will pay you $100k annually beginning at age 85. With average annual inflation at only 3%, the spending power of that $100k will shrink to $48k when payouts start at age 85. If we experience a period of high inflation (certainly possible given recent government spending and borrowing), the picture looks even worse.

But, overall the plan is worth considering. What helps are recent rule changes announced by the federal government that will allow 401(k) funds to be used directly to purchase annuities, without a lot of red tape and immediate tax consequences.

Here is a link to an article that discusses the plan: Do You Face Money Death in Old Age?

If you are  a student of retirement planning like me, you will want to read the full plan article here.

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