A common skewed notion of an annuity is that, it is generally associated with insurance, a needed form of protection that only pays off whenever an adverse event happens, such as accident, illness, fire, or death. We have been preconditioned since childhood to view insurance as such and it is very hard to shake preconceived notions. However, an annuity should be viewed as an investment vehicle, with death benefits an added advantage.
Is An Annuity Good for 401(k) Plan Then?
The traditional pension plan is practically unheard of nowadays, but just look at how happy our parents are of the certainty of a guaranteed income for life, without the worry of potentially adverse movements in the market.
In a recent retirement survey conducted by the BlackRock fund, 77% of respondents wished they had some form of guaranteed income after retirement, whereas 86% took the view that employers should have helped them achieve that goal. Harvard economics professor David Laibson offered this profound insight into another retirement survey that concluded that retirees with a guarantee income tend to be happier and much more confident about the future than those who do not: loss of cognitive functions that usually accompany old age can lead to bad and disastrous decisions. By 85, almost a third suffer from such cognitive losses, while almost another third suffer cognitive losses that are also compounded by dementia, which doubles in prevalence every five years starting at 60. The implication is that most retirees recognize that the vast majority of them may not even be able to figure what 10% of $10 is, let alone having to make decisions regarding such things as asset allocation and the like in a reasonable manner.
Big employers are finally realizing the importance attached to a guaranteed lifetime income, and moving toward the position that annuities can be good for 401(k) plans. The recommended allocation is 30% of assets to be invested in an annuity to provide the desired guaranteed lifetime income stream. 10% of employers are already offering that option, and the number is expected to double in the next twelve months.
As more sophisticated products are developed that mimic this unique feature of annuities, this trend is certain to accelerate.
An additional benefit of an annuity being good for 401(k) plans is that it just may convince people to save more. The traditional mix of stocks or bonds invested in 401(k) plans has devastated financial assets over the past several years, and investors have become increasingly wary of throwing good money after bad. An improved certainty of eventual benefits may just convince investors of the worthiness of an annuity.
To that purpose, here is a list of presently available types of annuities:
- Deferred Annuity: Fixed income stream after a predetermined period of time.
- Fixed Annuity: Guarantees a fixed rate of interest on premiums.
- Variable Annuity: Earnings are subject to the vagaries of the stock market, so exercise care.
- Equity Indexed Annuity: Guaranteed interest rate and principal is protected, while participating in market gains.
You may ask yourself: is an annuity good for 401(k) plans? If employers are right in their judgment, the definite answer is yes. Future financial gains are hard to predict, but an annuity definitely seems to have a visible psychological benefit.