Create a do-it-yourself pension

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(MoneyWatch) This post continues my review of retirement income products and services. As baby boomers glide toward their retirement years, many are focused on the need to generate a reliable retirement income that's protected from stock market volatility. Many people wish they had a company pension, where you're paid a monthly retirement income for the rest of your life, no matter how long you live and what happens in the economy.

But without a pension, you can make your wish come true with a simple fixed annuity, a product that's been available for years from insurance companies. Don't confuse these time-tested products with "deferred variable" annuities, which can have high expenses and poor investment returns and which have given annuities a bad reputation.

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One simple fixed annuity was recently introduced by New York Life. Its Guaranteed Future Income Annuity allows individual investors to build a future guaranteed retirement income stream. It's pretty simple:

1. You pick a future retirement age.
2. You make premium payments whenever you want.
3. Each premium payment buys another layer of a fixed, lifetime income.

The main benefit of New York Life's product is also pretty simple: high payout rates. Let's take a look.

New York Life's annuity rates change every week, depending on capital market conditions. For rates in effect the week of August 6, a 60 year-old man with $100,000 to invest could buy a fixed monthly pension of $692.16 starting at age 65, for an annual payout rate of 8.31 percent. (The annual payout rate is the annual retirement income divided by the original investment.) A 60-year-old woman could buy a fixed monthly pension of $641.49 per month, for an annual payout rate of 7.70 percent.

Let's compare this annuity to systematic withdrawals, another approach to generating retirement income. With systematic withdrawals, you invest your retirement savings in a balanced portfolio of stocks and bonds, and then develop a cautious withdrawal strategy that minimizes the odds of outliving your savings. A widely used strategy for 65-year-old retirees is the "4 percent" rule, where the retirement income in your first year of retirement equals 4 percent of your retirement savings.

It's unfair to compare a 4 percent payout rate under systematic withdrawals with the New York Life payout rates, because the annuity is delayed from age 60 to age 65, whereas the 4 percent rule assumes you start the retirement income immediately. So we need to reflect that the annuity will earn five years of interest earnings before the annuity starts. One way to make this adjustment is to assume that the annuity earns 5 percent per year; if we adjust New York Life's payout rates to reflect this assumed interest rate, then its payout rates at age 65 are 6.5 percent for the man and 6 percent for the woman. Both of these amounts are 50 percent higher than the income produced by the systematic withdrawals' 4 percent rule.

But it's still unfair to compare these payout rates. Comparing these two approaches to generating retirement income is like comparing apples to broccoli -- they're completely different methods. With systematic withdrawals, you have access to any unused savings at any point in time, unused funds at your death can leave a legacy, and your retirement income will increase if your retirement savings perform well. But if you live a long time or your investments perform poorly, you might outlive your savings.

With the fixed annuity, your income doesn't increase, you don't have access to your savings, and when you die there's no money left over for a legacy. These restrictions enable New York Life to make long-term investments that support their high payout rates and make lifetime guarantees.

When it comes to nutrition, a balanced diet of fruits, vegetables, grains, and other foods is optimal. It's the same with generating retirement income: It makes sense to diversify your sources of retirement income by dividing up your retirement savings and using two or more approaches for generating income. This can give you the advantages of each approach while mitigating the disadvantages. It will also protect you against different types of investing risks.

Annuities have other advantages, in addition to their lifetime guarantees. They're very user-friendly, because your monthly paycheck gets automatically deposited in your checking account. You don't need to make decisions about how much to withdraw or how to invest, which can protect against mistakes and fraud that can happen in your later years if you become less able to manage your money.

If you're worried about the future solvency of New York Life, its financial strength ratings are among the best: Aaa by Moody's, which is their highest rating, and AA+ by Standard & Poor's, which is their second-highest rating out of 21 possible ranks. If you're still worried, then find out the guaranty limits under your state's insurance guaranty association and keep your total annuity purchases within these limits.

Here are a few more details about New York Life's Guaranteed Future Income Annuity. You have a one-time option to change the age when your income starts. Also, you can elect joint-and-survivor or period-certain annuities if you want the retirement income to continue to a spouse or beneficiary after your death.

The New York Life annuity is available through New York Life agents and through Fidelity's Insurance Network. You can buy this annuity with retirement savings in your IRA or with regular after-tax savings.

As I've written in previous posts, there are many reasonable ways to generate a retirement paycheck, and each can meet different goals and circumstances. New York Life's Guaranteed Future Income Annuity is one offering you should consider, along with similar annuities from other highly rated insurance companies. This type of annuity offers protection against two significant retirement risks: outliving your financial resources, and decreases in your retirement income due to stock market crashes.

Deciding how to generate retirement income from your savings is one of the most important financial decisions you'll ever make. It's well worth your time to consider all your options.

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    Steve Vernon helped large employers design and manage their retirement programs for more than 35 years as a consulting actuary. Now he's a research scholar for the Stanford Center on Longevity, where he helps collect, direct and disseminate research that will improve the financial security of seniors. He's also president of Rest-of-Life Communications, delivers retirement planning workshops and authored Money for Life: Turn Your IRA and 401(k) Into a Lifetime Retirement Paycheck and Recession-Proof Your Retirement Years.

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