{"id":2909,"date":"2015-10-02T07:16:21","date_gmt":"2015-10-02T13:16:21","guid":{"rendered":"http:\/\/admin.patheos.com\/blogs\/janetheactuary\/?p=2909"},"modified":"2016-08-16T09:47:51","modified_gmt":"2016-08-16T15:47:51","slug":"why-dont-retirees-buy-annuities","status":"publish","type":"post","link":"https:\/\/www.patheos.com\/blogs\/janetheactuary\/2015\/10\/why-dont-retirees-buy-annuities.html","title":{"rendered":"Why don’t retirees buy annuities?"},"content":{"rendered":"\n<\/head>

To begin with, a great many retirees just don\u2019t have enough saving for an annuity to make any sense. \u00a0If your account balance is small, you\u2019ll need all your cash for rainy-day type expenses, whether it\u2019s medical bills, car repairs, or literal rainy day home repairs; if your account is large, the only question is how much you leave your heirs. \u00a0But for other retirees, an annuity purchased from their 401(k) could provide them with the predictable income, and protection against outliving their savings, that defined benefit plans have historically done.<\/p>\n

So why don\u2019t retirees do exactly this? \u00a0Lots of reasons, of course. \u00a0Some employers are beginning to offer annuities through the 401(k), providing their employees with the benefit of group rates, but those who buy annuities individually get less value for the money because of leakage for sales agent commissions. \u00a0Besides this, insurers have to fund administrative expenses, reserves for adverse experience, and a profit margin, and, for fixed annuities, must invest conservatively, to boot.<\/p>\n

But do retirees do the math on, say, the amount they\u2019d get from an annuity vs. following the \u201c4% rule\u201d* (which doesn\u2019t reflect different financial planning for early vs. \u201cnormal\u201d vs. late retirement), and evaluate their relative risk, and make a rational decision?<\/p>\n

(*You don\u2019t know what the 4% rule is? \u00a0Remind me to talk about that in a later post.)<\/p>\n

Here\u2019s an article in the Washington Post \u201cWonkblog\u201d<\/a> about the \u201ctontine\u201d \u2014 an older form of annuity in which, when participants die, their payments are reallocated to others in a group. \u00a0This was very popular at the turn of the 20th century, until a set of scandals ended them, and the article says,<\/p>\n

Some academics even argue that with a few new upgrades, a modern tontine would be particularly suited to soothing the frustrations of 21st-century retirement. It could help people properly finance their final years of life, a time that is often wracked with terribly irrational choices.\u00a0<\/span><\/p><\/blockquote>\n

(Presumably the idea is that the longest-surviving participants would be those most needing end-of-life care, so that this would serve as a combo annuity + long-term care insurance.<\/p>\n

Now, the article misses some details: \u00a0after all, whether your payments are reallocated to other participants or simply disappear as a part of the insurer\u2019s calculation of the value of the benefit, there still has to be an insurer behind the scenes, determining the life expectancy of the last remaining participant and the asset return in the meantime, to identify the premium payment required to participate, and to manage the plan in the meantime. \u00a0Wonkblog seems to suggest that this is a nonissue, that a tontine would eliminate the need to hedge for risk, because it would automatically adjust\u2013 but then they seem to wander away from a \u201ctontine\u201d as they\u2019ve defined it into the territory of a variable annuity or something more similar to the adjustment mechanisms existing in certain types of European plans (e.g., the \u201ccollective DC plans\u201d in the Netherlands) or proposed for the US.<\/p>\n

Then the post discusses the unpopularity of annuities, which is called a \u201cmystery,\u201d but attributed to a fear by retirees that they\u2019ll die too soon and be \u201ccheated.\u201d<\/p>\n

But the comments make it pretty clear why annuities can\u2019t make headway: \u00a0people just don\u2019t trust insurance companies. \u00a0They don\u2019t understand the math that says that insurers price annuities based on the likely distribution of life expectancy of their customer base as a whole, and invest the purchase price to fund the annuities for the entire group, in the same way as, with whole life insurance (to the extent that this still exists), premiums balance the early deaths of some (before they\u2019ve paid much premium) vs. the later deaths of others, and the premiums are invested over time.<\/p>\n

Instead, they are convinced that if they die young, the insurance company wins, and they lose, and since the insurer is a money-grubbing company, that\u2019s unfair.<\/p>\n

What\u2019s the difference between the tontine and actuarial game the insurance company plays? The difference is, if you die early, other people win instead of the insurance company.\u00a0<\/span><\/p>\n

*****<\/p>\n

Makes perfect sense to me. We like the tontine because, if we live we win, and if we die other people win. In either case the insurance company doesn\u2019t win \u2013 as much.<\/span><\/p>\n

*****<\/p>\n

People do not like annuity sold by insurance companies because we don\u2019t trust the insurance industry. Remember the story of Executive Life in California which went bankrupted and the retired folks lost all their money? How about this proposal: The US government sell annuity to the citizens of US and guaranteed by our government which can print money at will? This will cut out the wall street bankers, insurance industry whose only motive is profit for the fat cats.\u00a0<\/span>
I definitely would buy the annuity sold by the US government which is as good as US bond. Let\u2019s have a public debate on this.<\/span><\/p>\n

*****<\/p>\n

It\u2019s certainly better than an annuity, where the insurance company is the one profiting from your early demise. \u00a0<\/span><\/p><\/blockquote>\n

Now, on the other hand, another reader says:<\/p>\n

\u00a0would be interested in something I could buy now with IRA\/401k money at my age, 62, that would start paying at, say, age 75 and another that would start @ age 82. Let the funds compound for everyone for 13 & 20 years.\u00a0<\/span>
\u00a0<\/span>
That way, if I live to 94, or even 104, I would not be broke. And my needs will likely increase with age. \u00a0<\/span><\/p><\/blockquote>\n

That is, describing a longevity annuity, because such a thing does exist.<\/p>\n

Other readers suggest that all you really need to do is invest your money and live of the interest, or confuse a tontine with an annuity and see it as simply \u201ca good idea to protect against outliving your assets,\u201d as if no other such alternative currently exists.<\/p>\n

And still other readers fail to understand the concept and call corporate pensions or Social Security a tontine, having understood little more than \u201ca tontine is a shady sort of retirement benefit.\u201d<\/p>\n

While a final group valiantly tries to educate all the others on insurance, annuities, and Social Security.<\/p>\n

So, how do you market annuities, or even change the way they work, to overcome this?<\/p>\n

\u00a0<\/p>\n

\u00a0<\/p>\n

\u00a0<\/p>\n<\/body><\/html>\n","protected":false},"excerpt":{"rendered":"

To begin with, a great many retirees just don\u2019t have enough saving for an annuity to make any sense. \u00a0If your account balance is small, you\u2019ll need all your cash for rainy-day type expenses, whether it\u2019s medical bills, car repairs, or literal rainy day home repairs; if your account is large, the only question is […]<\/p>\n","protected":false},"author":2209,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[450],"tags":[],"class_list":["post-2909","post","type-post","status-publish","format-standard","hentry","category-actuarial"],"yoast_head":"\nWhy don't retirees buy annuities?<\/title>\n<meta name=\"description\" content=\"To begin with, a great many retirees just don't have enough saving for an annuity to make any sense. \u00a0If your account balance is small, you'll need all\" \/>\n<meta name=\"robots\" content=\"index, follow, max-snippet:-1, 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