Investing is broad, but necessary, category in a person’s personal finance world. Leaving your savings in just cash never made much sense nevertheless at today’s rates. Investing is often thought about in terms of buying stocks, but it is more than that, you could invest in an insurance based product, real estate, a business, yourself, etc.
Understanding Annuities makes it easier for you to make an informed decision rather than just listening to an advisor or worse a talking head on television. Annuities often bring up strong emotions when they really shouldn’t, it is nothing more than a financial product often issued by insurance companies. The definition of an annuity is simple and straight forward, but like anything else when you dive deeper it gets a little more complicated.
The definition an annuity is nothing more than a stream of income for a fixed period of time.
If that is the definition what is the easiest type of an Annuity to Understand? The SPIA
What is a Single Premium Immediate Annuity?
So I have a lump sum of cash, but I am freaked out that I don’t want to worry about investment returns I just want a stream of income.
Well then you would buy a SPIA, a Single Premium Immediate Annuity, for life. So we are going to get a stream of income for the rest of your life. If you die (or 2 people die if it is a joint product – more about this below) then the income stream is over. You are making a bet with an insurance company that you are going to live a long time. You would never buy a SPIA if you are on your death bed.
The payout is based on your age and current interest rates. So all those people that bought SPIAs when the interest rates were at 5, 6 or 10% are laughing all the way to the bank for the past decade.
How Can we Alter a SPIA?
Did you make a face at that part when I said, if you die the stream stops? Well, if you did then you can add a rider to your product so it is guaranteed to pay you (or your family) for a certain time period. So if you have a 10 year SPIA you will get an income stream for 10 years, but if you die in year 7, your family will get the remaining 3 payments. This differentiates it from the plain old vanilla SPIA.
What if you it is a couple’s money, and you want to make sure that the lump sum that we talked about in the plain old vanilla but you want it to last 2 lifetimes (usually a husband and wife)? You can buy a joint IRA and you can guarantee a stream of income for both spouses.
Should I Buy a Single Premium Immediate Annuity?
A SPIA is a financial product like any other, and you need to apply it to your situation. If you have a lump sum that you want to turn into a guaranteed income stream, then Yes a SPIA is for you. If you want to take yourself out of the market but want more than 1% than a savings account, then a SPIA is for you.
If you have knowledge of your pending close death (i.e. you have already been diagnosed with terminable cancer) then a SPIA is not for you. If you have a general distrust for the insurance industry and you don’t have an open mind then a SPIA is not for you.
An Example of a SPIA
Lets make things real. I am using a ~150 year old very good rated insurance company (think cream of the crop not your mom and pop insurance company).
- 70 year old male
- $100,000 Lump Sum
- Plain Vanilla SPIA
Provides about $8,200/yr for the rest of that male’s life – this doesn’t matter what the market does.
Next up: Deferred Annuities
Do you own a SPIA? Ever been approached to buy one?