Are annuities a bad idea for retirees?

In opposition to long-standing conventional wisdom and research that extolls annuities’ ability to provide life-long income, most households should not annuitize any of their wealth, according to a study from the Congressional Budget Office.

In explaining their conclusion, the study’s authors, Felix Reichling of the CBO and Kent Smetters, from the Wharton School, state that “the present value of the annuity stream falls after a negative shock to health that reduces a household’s life expectancy.” At the same time, the authors state that negative health shocks often produce “correlated costs” such as a loss of income, an increase in uninsured medical outlays, or both. Such factors, along with the “liquidity constraints” of annuities, combine to reduce their appeal.

The finding was no surprise, even to those who specialize in annuities. “Many other research efforts find in favor of annuities,” said Bob McCommon, senior vice president and director of annuity sales and operations at Wunderlich Securities in Memphis, and there is still a place for them. “When [participants] need maximum income in order to cover essential needs, and concerns for legacy are minimal, then advisers see the benefits of immediate annuities. Clients often will raise the issue themselves,” he says.

Nevertheless, McCommon says the older academic research in favor of annuitization usually does not persuade participants, especially in today’s low-yield environment.

Donald Jay Korn writes for Financial Planning, a SourceMedia publication.