Apples to oranges:

Fixed annuity income versus

4 percent spending rule income


Annuity salesmen are famous for touting annuities that pay a higher rate of return than what you would otherwise get if adhering to the 4% spending rule (30 year time horizon until death).


The first slight of hand is that they omit telling you that the 4% rule of retirement assumes that your initial 4% rate of income increases with the rate of inflation. Also, with a 20 year life expectancy, depending on which study you choose to believe, you can take out between 5.1 and 5.5%. Also, if you are comfortable with running out of money around the time of your death, you can likely take out more than the spending rule suggests.


They also don't tell you that most annuities pay a fixed rate of income that does not increase. One final slight of hand that they use is to tell you that there are some annuities that increase with the rate of inflation (to a certain cap). But annuities are like Wac-A-Mole. If the insurance company is going to give you increasing returns, they are going to take something else away in return. Insurance companies don't play Santa Claus.


So essentially, the insurance company is baiting you with a high initial rate of income that should eventually be more than surpassed by income generated from a traditional account of bonds and stocks. When you reverse engineer what insurance companies do with your annuity money (invest at least 70% in bonds), it becomes clear that they must reduce income payments later in time. In other words, if it's ill-advised for you to take out 6% per year pegged to inflation, then it's also ill-advised for an insurance company to take out 6% per year pegged to inflation. They can't and won't. Don't be confused into thinking that a too-good-to-be-true income rate is what they are actually offering.


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