Dad Is 70 And Wants To Trade $500,000 For A $3,500-a-month Check For Life Now That Annuity Payouts Are The Highest Since 2008. Here Is What He’ll Be Giving Up

The post Dad Is 70 and Wants to Trade $500,000 for a $3,500-a-Month Check for Life Now That Annuity Payouts Are the Highest Since 2008. Here Is What He’ll Be Giving Up appeared first on 24/7 Wall St..

Picture a 70-year-old father with $500,000 in savings and an insurance quote that says, essentially, hand over a lump sum and get a $3,500 check every month for the rest of his life. Headlines say annuity payouts are the best they have been since 2008, and he wants to sign before rates slip. Before anyone goes down this road, it’s important to understand what someone in this situation, like this dad, gives up to get it, and how most people in his position should structure the deal.

Many families have this exact conversation. Quote services show 70-year-olds getting single-life offers close to his number right now, so the quote holds up, but the trade itself needs examination.

Why Insurers Are Paying So Much Right Now

Insurers invest annuity premiums mostly in long-term bonds, and those bonds pay well right now. The 10-year Treasury yields 5.1%, compared with 4% a year ago. The 20-year pays 5.5%. Rates may keep rising: nearly all economists Reuters surveyed expect the Fed to raise rates again in December.

What $3,500 a Month Really Means

Over a year, $3,500 a month equals $42,000, an 8.4% payout rate. That looks like a great yield, but most of each check is his own money being returned to him. It takes roughly 11.9 years to get the $500,000 back, so he breaks even around age 82.

Compare that with doing nothing fancy like putting the same $500,000 in 10-year Treasuries yielding 5.1%, which would pay about $2,137 a month, and he would still own every dollar of principal. The annuity’s extra $1,362 a month is a mortality credit. Put simply, people in the insurer’s pool who die early fund the ones who live long.

Four Things He Hands Over With the Check

1. Access to the money. Once a standard immediate annuity starts paying, the lump sum is gone for good. If he needs assisted living at 78, he cannot pull $100,000 back out.
2. Anything left for his heirs. A single-life contract with no refund feature ends when he dies. If he dies at 74, the insurance company keeps the remainder. A cash-refund or joint-life option fixes that, but the monthly check gets smaller.
3. Purchasing power. With 3% inflation, $3,500 buys what about $2,247 does today by age 85, and about $1,938 by age 90.
4. Room to benefit if rates rise. Signing today locks in today’s rate. If the Fed boosts and yields keep rising, he cannot move the money into a better quote.

Tax Treatment Depends on Where the $500,000 Lives

If the money is in a traditional IRA, every payment counts as taxable income under 26 U.S.C. § 408(d)(1). An annuity bought with part of an IRA can also count toward his required minimum distributions, which begin at age 73, according to IRS Publication 590-B.

Money from a regular taxable account gets better treatment. Under the exclusion ratio in 26 U.S.C. § 72(b)(1), part of each check is treated as a tax-free return of his principal until the full investment is recovered.

Annuitize the Gap, Keep the Rest

Putting the whole $500,000 in only makes sense if three things are true. He has other liquid savings, his health and family history point to a long life, and leaving money to heirs is not a priority. For most 70-year-olds, at least one of those is unlikely to be true.

Most people do better with a partial annuity. At the same payout rate, $250,000 buys roughly $1,750 a month of guaranteed income. The rest stays invested and available for long-term care, emergencies, or heirs.

For this reason, TIAA planners recommend annuitizing only a portion of savings, and we laid out the full mix, payment calendar, and withdrawal order for turning a nest egg into a reliable monthly paycheck in a free guide here. Splitting the purchase into two or three pieces over the next year or two also lets him take advantage of higher rates if they come.

What to Do Before Signing Anything

To see how each monthly income option breaks down, start by calculating his income gap. This means subtracting essential monthly expenses from Social Security and any pension, then buying only enough annuity to fill the gap. Everything above it should stay liquid.

The priciest mistake is putting nearly all of his liquid net worth into a single-life, no-refund contract with one insurance company. Check the insurer’s financial strength ratings, and keep each contract under your state guaranty association’s coverage limit. That guarantee is only as good as the company that writes it.

The post Dad Is 70 and Wants to Trade $500,000 for a $3,500-a-Month Check for Life Now That Annuity Payouts Are the Highest Since 2008. Here Is What He’ll Be Giving Up appeared first on 24/7 Wall St..