There are many reasons to consider a SPIA. First, there’s a sense of security knowing you can’t survive that monthly paycheck. This amount that comes in each month feels good, and this fixed amount helps us budget our living expenses. This is especially true if you don’t receive a pension from a company you worked for. And when the rest of his portfolio plunges into a bear market, it’s reassuring to know that this payment is safe. One benefit that I don’t see much talk about is that the annuity provides protection against possible cognitive decline. With this money held by the insurance company, we can’t do anything stupid if our mental acuity fades.
Finally, when it comes to annuities, SPIAs have a relatively low commission rate paid to the agent. As a general rule, the more fees you pay, the less you pay.
As mentioned, annuities are not without drawbacks. The biggest risk is inflation. In the past year ending in March, inflation was 8.5%. If I had bought that salary a year ago, I would have lost so much buying power in that year alone. What will my salary buy in 25 years? Well, if inflation returns to the long-term average of 2.2% since 2013, my monthly salary of $535 will buy me about $311 worth of goods and services. If inflation stays at 8.5%, she only buys about $70. It wasn’t too long ago that insurance companies sold SPIAs that adjusted for inflation, but they have since withdrawn this product. Although you can buy an SPIA that has a fixed annual increase, these actually have more inflation risk, since your salary is less in the first years, but the larger payments in later years buy much less.
You also wouldn’t want to buy a SPIA if you think your life expectancy is short. Finally, if leaving a legacy for your children is important, then I wouldn’t consider a SPIA. Although you can purchase the product which has what is called a certain period which would pay out even if you died in previous years, the monthly payment is much less than a lifetime payment. I don’t think it makes sense to buy a pay-as-you-go product to protect both long life and short life.
I decided not to explore this product further. Insurance companies have stopped offering inflation-adjusted SPIAs because they see the risk as too high. Not that we know what inflation will be over the next 25 years, but it is an ever-present risk. So if you’re buying a SPIA, make sure it’s only part of your retirement plan, and understand that the check is primarily a return of your own money. And remember that the actual purchasing power of the annuity in a few decades could vary considerably.
Rather than take Social Security at age 65, I’m going to wait until I’m 70, when I get almost $1,159 more a month. Unlike the SPIA, I have inflation protection, and my wife will continue to receive that paycheck as a survivor benefit if she outlives me, which, of course, women usually do.
SPIAs can sometimes make sense for part of your retirement plan. The fact that you may not have been offered one is because the commissions are not as juicy as many other annuities. But be careful and understand the risks.
Allan Roth is a practicing financial planner who has taught finance and behavioral finance at three universities and has written for national publications including The Wall Street Journal. Despite his numerous diplomas (CFP, CPA, MBA), he remains confident that he can continue to invest simply.