Introduction
Many Americans today are planning to retire later than earlier generations, as shown by recent Gallup poll results. With Social Security’s full retirement age of 66 or 67 for many individuals, it’s increasingly common for people to work longer before claiming full benefits. This shift, combined with the prospect of longer working years and potentially extended retirements, makes planning for retirement income more complicated. In this context, annuities can play an important role. This article aims to explain, in straightforward terms, what annuities are, why they may be a smart option for those retiring later, and what key trade-offs should be considered when deciding if an annuity is right for you.
The Trend Toward Later Retirement
What the data shows
Recent survey data highlights a clear shift in retirement patterns among Americans. According to Gallup, the average age at which retirees report leaving the workforce has increased from 57 in 1991 to 61 today. For many current workers, the age for full Social Security retirement benefits is no longer 65; those born after 1960 must wait until age 67 to receive full benefits. In addition, skepticism about retiring at the traditional age is on the rise, with findings from a TIAA survey indicating that many Americans doubt whether retiring "on time" is realistically achievable.
Why retirement might be delayed
Americans are increasingly facing the need for larger retirement savings due to longer life spans, which means their nest eggs must last for more years. This challenge is compounded by economic pressures such as inflation, higher living costs and rising healthcare expenses. Many individuals are also unsure whether their savings, Social Security, and other retirement income sources will be enough to support them, prompting some to remain in the workforce longer. In addition, personal motivations such as a desire to stay active, engaged, or not feeling financially prepared to retire can also lead people to delay retirement.
Implications of later retirement
Individuals who choose to work longer often experience an extended transition period into retirement, which may involve part-time work or consulting. To navigate this phase effectively, it is important to structure savings and retirement investments in a way that supports both continued employment and the eventual shift to full retirement. Once fully retired, many will require a steady and dependable income stream rather than relying solely on lump-sum savings especially since retirees are starting this stage later in life and may need their resources to last for several decades.
Understanding Annuities — What They Are and How They Work
What is an annuity?
An annuity is a contract between you and an insurance company. In exchange for a lump sum or a series of payments, the company promises to provide you with a steady stream of income either immediately or at some point in the future. This process typically involves two main stages: the accumulation phase, during which your funds are invested and grow, and the annuitization phase, when you start receiving steady income payments.
Major types of annuities
There are several key types of annuities to consider when planning for retirement. An immediate annuity begins providing income payments almost right after purchase, making it ideal for those who are at or near retirement. In contrast, a deferred annuity offers payments that start at a later date, allowing additional time for savings to grow, which can be beneficial for individuals still working or those who want to postpone receiving retirement income. Fixed annuities provide a guaranteed interest rate and stable payments, regardless of fluctuations in the market, offering security and predictability. On the other hand, variable or indexed annuities have payouts that depend on market performance, such as stocks, bonds, or indexes. This means there is potential for greater returns, but also a higher degree of risk and variability compared to fixed annuities.
| Annuity Type | When Payments Begin | Key Feature | Ideal For | Payment Stability | Market Dependency | Risk Level |
|---|---|---|---|---|---|---|
Immediate Annuity | Almost right after purchase | Provides income payments quickly | Those at or near retirement | Stable | No | Low |
Deferred Annuity | Later | Allows savings to grow | Individuals still working or wanting to postpone income | Varies | Depends on type | Varies |
Fixed Annuity | As specified in contract | Guaranteed interest rate and stable payments | Those seeking security and predictability | Stable | No | Low |
Variable or Indexed Annuity | As specified in contract | Payouts depend on market performance | Those seeking potential for greater returns | Variable | Yes (stocks, bonds, indexes) | High |
Added features: riders and customization
Many annuities offer the flexibility to customize your contract with additional features known as riders, which may include guaranteed lifetime income, adjustments for inflation, spousal survivor benefits, or death benefits for your heirs. However, it's important to note that selecting these riders typically raises the overall cost of the annuity and can make the product more complex to understand and manage.
Why Annuities May Make Sense for People Retiring Later
Guaranteed, predictable income — a hedge against uncertainty
As more individuals choose to retire later, the period between leaving the workforce and requiring a steady income can become less predictable. Annuities offer a reliable stream of income that acts as a foundation or “income floor” for retirement finances, much like a traditional pension. Establishing this income floor helps lessen the dependence on withdrawals tied to market performance, which is especially important during times when market downturns coincide with increased spending needs early in retirement (sequence of returns risk).
Protecting against longevity risk (outliving your savings)
As people continue to live longer, a major concern is the possibility of outliving their savings. Annuities are designed to address this issue by offering a guaranteed stream of income that lasts throughout your lifetime, regardless of how long you live. This form of longevity protection becomes increasingly important as individuals retire later and face longer periods in retirement.
Market-risk mitigation and volatility protection
For those approaching retirement, exposure to market volatility during the critical “retirement risk zone” can significantly impact their financial security. By incorporating fixed or indexed annuities, retirees can protect a portion of their retirement savings from market downturns, which helps reduce anxiety and safeguard their capital. This added layer of protection supports a smoother transition from the accumulation to the decumulation stage, when individuals begin spending and relying on their savings for income.
Tradeoffs, Considerations, and Common Pitfalls — What You Should Watch Out For
Complexity and lack of liquidity
Annuities, particularly variable and indexed types, are often complex and challenging to fully grasp. Once you decide to invest in one, accessing your funds can prove difficult due to surrender charges, penalties, and limited withdrawal options (lack of liquidity).
Fees and costs can be high
Annuities often come with a variety of fees, including annual charges, administrative costs, commissions, mortality and expense fees, as well as additional charges for optional riders. These fees can significantly reduce your overall returns (fee drag). When high costs are paired with choosing a less-than-ideal annuity product, the overall benefit may be less appealing compared to other retirement strategies such as diversified index funds, bonds, or real estate.
Inflation risk (unless addressed)
Fixed-income annuities can be vulnerable to inflation risk over an extended retirement period. If inflation rises and you haven’t chosen cost-of-living adjustments or inflation-protection features, which typically come at a higher price, your annuity payments may lose purchasing power over time, reducing your ability to keep up with rising expenses.
Irreversibility and opportunity cost
Once you choose to annuitize (meaning you start receiving payments from your annuity) it becomes extremely difficult or even impossible to reverse that decision or regain access to your original principal. As a result, if your circumstances change and you need a large lump sum, wish to leave a larger inheritance, or desire greater financial flexibility, you may find yourself regretting the decision to lock into a fixed income stream.
Not ideal for everyone — suitability is key
Annuities may be too inflexible for individuals who require easy access to their funds for reasons like medical emergencies, managing debt, or covering significant life events. Those who retire at a younger age or possess considerable additional income or assets may benefit more from diversified investment portfolios, which can provide greater growth opportunities. Before making a commitment, it's essential to thoroughly review all terms, fees, and optional features, and to seek guidance from a fiduciary or qualified financial professional to ensure the product aligns with your financial goals.
How to Think About Annuities considering Later Retirement — A Framework
To determine if an annuity is appropriate, first assess your retirement timeline, expected longevity, and whether your existing income sources sufficiently cover essential expenses. Consider using an annuity to fill any income gaps, but only allocate a portion of your savings, allowing the rest to remain flexible and liquid for emergencies. Carefully evaluate product types, features, fees, and consult with an impartial advisor to ensure the annuity matches your needs and financial goals.
| Step | Details |
|---|---|
Estimate retirement timing | How long until you retire, how long you might live in retirement |
Value of longevity protection | Long retirement (delayed retirement, good health) increases value |
Assess income sources | Social Security, pension, 401(k)/IRA; reliability and sufficiency for expenses |
Identify income gap | Basics covered, but not health care, discretionary spending, emergencies |
Role of annuity | Could help "fill the gap" |
Decide nest egg allocation | Portion to "anchor" (guarantee), portion to keep invested or flexible |
Advisor suggestion | Not all savings into annuities; portion for base income, rest for flexibility |
Match annuity type to needs | Immediate annuity for near-retirement; deferred fixed/indexed for working; variable/indexed for growth; riders for inflation, survivor, death benefits |
Consider fees and costs | Upfront fees, surrender charges, admin fees, rider costs, fee drag |
Tax treatment | Tax-deferred growth, withdrawals taxed as ordinary income |
Flexibility and liquidity | Need for lump sums (medical, long-term care, family support); keep liquid assets outside annuity |
Consult advisor | Qualified, impartial, fiduciary advisors recommended |
A Balanced View — When Annuities Make Sense, and When They Might Not
Annuities make sense
If you are approaching retirement or choosing to delay it and are seeking a stable, predictable income stream, annuities may be a suitable option. They can be particularly appealing if you are worried about outliving your savings, value psychological comfort and predictability, and wish to minimize your dependence on market timing. While you may need to give up some liquidity the trade-off is enhanced financial stability during your retirement years.
Annuities may not make sense
If you require flexibility and ready access to your funds, whether for emergencies, major purchases, or legacy planning, an annuity may not be the best fit. Similarly, if you anticipate depending on other sources of income, such as investments, part-time employment, rental properties, or inheritance, and do not need a guaranteed income base, you may find greater value elsewhere. Those who seek higher growth potential and are comfortable with market fluctuations in pursuit of better returns may also prefer alternatives to annuities. Additionally, if you are put off by complexity and fees, or feel unable or unwilling to fully comprehend the details and tradeoffs involved in annuity contracts, other strategies may be more appropriate for your needs.
Conclusion
The trend toward later retirement, driven by factors such as increasing Social Security benefit ages, economic challenges, and longer life spans, is transforming how individuals must plan for their retirement income. Annuities can play a role in this new landscape by turning a portion of savings into a steady, guaranteed income, offering stability, protection against longevity risk, and greater peace of mind. However, annuities are not a one-size-fits-all solution. They come with notable drawbacks including complexity, various fees, restricted liquidity, and the risk of diminished purchasing power if they lack inflation protection. For many retirees, a balanced strategy may be best, using annuities to establish a secure income foundation while keeping other assets flexible and capable of growth. Ultimately, the most suitable approach depends on personal circumstances rather than popular trends, so anyone considering an annuity should closely assess their life expectancy, income needs, liquidity preferences, alternative income sources, and fully understand contract details, ideally with guidance from a qualified advisor.