Bob Arnold is an investment professional located in Dothan Alabama.
When it comes to the best way to invest for retirement, most families are focused on all the wrong numbers, such as rates of return, fees and net worth. In the final analysis, the most vital issue is whether you will have a sufficient, dependable stream of income that you cannot outlive.
One America Financial Partners recently commissioned a study by Wade Pfau, professor of retirement income at the American College for Financial Services. He concluded that a strategic combination of life insurance, annuities and traditional investments could provide the best way to invest retirement money.
WHERE TO INVEST RETIREMENT MONEY
This study on how to invest retirement money included two couples, one 35 and one 50. Each family started with $15,000 per year in gross income to build their retirement fund. In one scenario, each took a more traditional approach of buying term insurance and only investing in a 401(k), and a second approach used a combination of a 401(k), whole life insurance and a single-life income annuity. Some significant difficulties came to light regarding the traditional approach.
Specifically, sequences of return risk, inflation and longevity risk combine to present an unacceptable level of threat to both principal and earnings. Sequence of return risk is the risk of poor market returns in the early years of retirement that deplete funds, resulting in reduced retirement income. Longevity risk recognizes the potential for retirees to outlive their resources. Weighing these risks in light of simulations that follow the concept that no more than 4 percent of your account balance should be withdrawn annually from traditional investments, Pfau's study found it unlikely that either couple could support a reasonable lifestyle.
THE WINNING STRATEGY:
PERMANENT LIFE INSURANCE, SINGLE-LIFE ANNUITY AND A 401(K)
The winning strategy included purchasing a permanent life insurance policy that would be paid up at age 65 and purchasing a single-life annuity at age 65, maximizing the annuity payout. The permanent life policy insures the person assigned the single-life annuity benefit.
The remainder of the annual $15,000 was invested, via the 401(k), in relatively safe, traditional market instruments. This strategy was most beneficial for both couples, regardless of the 15-year investment window difference.
If the person with the annuity lives a long life, the family will have regular income from the annuity the entire time. If the person assigned the annuity benefit passes away, the whole life policy death benefit will be used to purchase another single-life annuity for the remaining spouse, thus ensuring an uninterrupted stream of retirement income.
In addition to the annuity payments, each couple also withdrew 3.5 percent annually from their 401(k) account. For the younger couple, the study showed a 40 percent increase in annual retirement income over the traditional 401(k) and term insurance approach, and it was a 45 percent increase in annual income for the 50-year-old couple.
The estate value for the heirs of both couples also increased. The 35-year old couple realized an increase of 228 percent, while a 451 percent increase in estate value was achieved for the 50-year-old couple by age 100.
With the assurance for stable lifetime income in conjunction with the inflated estate values for heirs, the strategy goes a long way in addressing where to invest retirement money.