Originally, annuities had one purpose, which was to convert a lump sum of capital into a stream of income, either for a lifetime or for a certain time period. They were designed for people at retirement or those who had a specific need for fixed, guaranteed income payments. Today, there are different types of annuities, which can be used to accumulate capital in addition to providing a guaranteed income. For most retirees, the need for a secure income stream they can’t outlive is the overriding concern. The question as to the best age to get an annuity depends on a number of factors, including a person’s current circumstances and investments, risk tolerance, longevity prospects and expected income needs in retirement. The best age to get an annuity is when you are able to optimize its benefits for your particular needs.
The Need for Lifetime Income
With people living longer and having to rely more heavily on their own capital to meet their retirement needs, the notion of converting a portion of their capital into a guaranteed income stream has a lot of appeal. Income annuities were designed for that purpose. When an individual buys an income annuity, he or she enters into a contract with a life insurance company in which the insurer agrees to make fixed monthly income payments in exchange for a lump sum of money. The payments are guaranteed for the lifetime of the annuitant or for a specified number of years.
How an Income Annuity Works
The monthly payment amount is based on several factors, including the annuitant’s age, gender, interest rates and the amount of capital invested. Annuities are designed to pay out the full amount of principal and interest by the end of a certain period. If an annuitant wants payments made for a 10-year period, the payment amount is based on the principal and total interest to be earned during the period, divided into 120 monthly payments. If an annuitant wants a lifetime income, the payment amount is calculated based on the number of months between his current age and his life expectancy age. If his current age is 65 and his life expectancy age is 80, the payment amount is based on 180 months. However, should he live beyond his life expectancy, the monthly payments continue based on the insurer’s guarantee of lifetime income.
The Older the Better for Income Annuities
Based on this formula, a shorter annuity payout period results in a higher monthly payment. For a retiree who wants to maximize his guaranteed monthly payment, waiting as long as possible to annuitize his capital proves the best option. Should he live past his life expectancy, he continues to receive the higher monthly payment until he dies. Consider the example of a person who invests $250,000 in an income annuity at age 65. If the interest rate is 2.5% and his life expectancy is 15 years, his monthly annuity payout amounts to $1,663.66. If he waits five years until age 70 to annuitize, his monthly payout amount is $2,353.54. If he waits until age 75, his monthly payout is $4,433.75 guaranteed for life. No one can know for certain how long he or she may live, but for people whose family genes are built for longevity, starting an annuity at a later age is probably the best option.
Waiting until a later age to annuitize assumes the retiree has other assets along with Social Security to meet his income needs, such as a retirement plan and a savings account. It is generally not advisable to tie all or a majority of one’s assets into an income annuity, because once the capital is converted to income, it belongs to the insurance company. Also, while a guaranteed income is highly desirable as insurance protection against longevity, it is a fixed income, which loses purchasing power to inflation over time. Investing in an income annuity should be considered as part of an overall strategy that includes growth assets that can help offset inflation throughout the annuitant’s lifetime.
Under the right circumstances, the best age for starting an income annuity is between 70 and 75, which allows for maximum payout. However, the more important consideration is when the need for a secure, guaranteed stream of income arises, which could be at any age.