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Content Provider : Kiplinger's Personal Finance
Posted : 12/16/2002

Kiplinger's Personal Finance, Vol 57, Issue 1, January 2003
pages 89-90 - Managing KIPLINGER'S - JANUARY 2003 RETIREMENT - Mixing FIXED AND VARIABLE ANNUITIES can offer steady income plus growth. By Kimberly Lankford

The great thing about a fixed immediate annuity is that you lock in a steady monthly income for the rest of your life. The bad thing is that although you lock in a steady monthly income for years into the future, the value of each check will be eroded by increases in the cost of living.

Still, as more Americans retire without company pensions, annuities are becoming a popular way to fill the gap. Retirees scared away from the stock market have been flocking to fixed annuities in record numbers.

Investing too much in a fixed annuity can be a mistake because you don't have inflation protection. So despite the tumultuous stock market, this is a good time to consider a variable immediate annuity. These annuities usually give you at least a dozen choices of mutual fund-like investments, and the size of your checks varies depending on the performance of the funds. The goal is for investment returns to outpace inflation over the long run. But payouts can shrink during a down market--a risk that, understandably, makes many retirees extremely wary.

To address such concerns, several companies, including T. Rowe Price and American Skandia, offer minimum-payout options. These options typically guarantee that your account will get the full upside of the investment's performance but that no check will ever fall below, say, 80%, or even 100%, of the initial payout. This insurance generally costs about 1% of assets a year ($1,000 on a $100,000 account).

Mix and match. You can get the same guaranteed income and potential for growth without the extra fees by combining fixed and variable immediate annuities. Financial planner Robert Kreitler of New Haven, Conn., favors this approach because you can fashion the annuities to fit your own needs. "It's hard to know if you're getting a good deal when the insurer is putting extra fees on top," he says of the minimum-guarantee plans.

To get a sense of how much annuity income you may want to shoot for, Farrell Dolan, executive vice-president of Fidelity Investments Life Insurance, suggests that you add up your essential expenses, such as food, real estate taxes, mortgage or rent, clothing, transportation, premiums for health and long-term-care insurance, and the expenses you just don't want to give up (such as a country-club membership). Then look at guaranteed sources of monthly income, such as social security and perhaps a company pension. "Those may be enough to cover your essential expenses," says Dolan.

If so, you don't need an annuity. But if you have a shortfall, you can fill it by "converting a portion of your assets into a lifetime income with an immediate annuity." Put part of the money in a fixed immediate annuity and part in a variable. "The fixed portion gives you the guaranteed-income stream; the variable gives you the probability of long-term growth," says Dolan. Fidelity has an online worksheet (www.fidelity.com) to help determine the best allocation based on your time frame and risk tolerance.

Which one for you? When you shop for an immediate annuity, be sure you're comparing similar plans. A life-only annuity provides the highest monthly payouts, but payments stop when you die; joint life ends when you and your spouse die. Joint life plus-10 (or plus-20) guarantees payouts for at least ten (or 20) years, even if you and your spouse die before.

It's easy to compare fixed annuities--just look at the payout amounts and go with the biggest one. At today's interest rates, for example, a 65-year-old couple who invests $100,000 in a Fidelity joint life plus-10 immediate fixed annuity will receive $587 a month as long as either one lives (and payouts will continue for at least ten years even if they both die).
Variable immediate annuities are much more complicated. The initial payouts can vary significantly because each company uses different assumed interest rates. For example, Fidelity lets you choose a 3.5%, 5% or 7% assumed interest rate; TIAA-CREF uses 4%.

If that 65-year-old couple invests $100,000 in Fidelity's immediate variable annuity with a 3.5% benchmark, their first check will be for $458. If the investments actually return 10% a year, however, the payout would rise to

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