Generate retirement income or leave a legacy?

(MoneyWatch) Given the modest level of retirement savings many Americans have accumulated, most of us might need to forget about leaving a financial legacy to our children from our retirement savings. The reason? There's a direct tradeoff between the amount of income we'll receive during retirement and the amount of retirement savings that remains when we leave this earth for good.

That's one of many helpful conclusions of a new study by the Stanford Center on Longevity (SCL) and the Society of Actuaries (SOA) titled "The Next Evolution in Defined Contribution Retirement Plan Design."

My first post on this report showed that your choice of a retirement income generator (RIG) has a significant impact on the amount of retirement income you can expect to receive throughout your retirement.

My second post advocated that you look at worst-case and best-case scenarios to help you make your decision about the RIG or RIGs that work best for your situation. The SCL/SOA study showed that annuity products generally deliver higher amounts of retirement income compared to investing offerings during unfavorable economic scenarios, but that investing solutions generally deliver higher amounts than annuities during favorable economic scenarios.

Curious about the amount of retirement income you can hope to receive during retirement? The SCL/SOA report estimates the amounts of income that a 65-year-old couple with $100,000 in savings might receive over 30 years of retirement using six different retirement income generators. The report also looks at the amount of retirement savings that remain at the end of each year during retirement for each of the RIGs.

The graph below shows the amount of money that's expected to remain at the end of each year under these six RIGs:

Here's an analysis of the graph's results:

  • For the couple, there's no remaining money from immediate fixed income and inflation-adjusted annuities, due to the inherent nature of these annuities. Once you invest in an annuity, you don't get your money back if you die sooner than expected because these products use the money received by annuitants who die before reaching their life expectancies to fund the benefits of annuitants who live beyond their life expectancies.
  • The lowest amounts of income generated throughout retirement are produced by the RIG with the highest remaining wealth -- systematic withdrawals-constant percentage. These results demonstrate the "common sense" tradeoff that comes with systematic withdrawals: Lower withdrawals for income during retirement almost always provide a higher amount of remaining wealth at any point in time.
  • GMWB annuities produce the lowest amount of remaining wealth and deplete a retiree's assets after 28 years, but the income continues anyway due to the guarantee of income that's inherent in this RIG. The insurance charges that are assessed against the account will reduce the remaining wealth (not so with the other RIGs based on investing solutions). That's the price you pay for combining access to your remaining assets with a lifetime guarantee of an income stream.

The SCL/SOA report also looked at how much money would remain in unfavorable and favorable economic times. As you might expect, the money that remains at the end of any year is lower for the unfavorable economic scenario and higher for favorable economic scenario.

Even if you don't expect to be able to leave money to your children or other beneficiaries, you might still be concerned about accessible wealth at any point in time -- for example, to address unforeseen emergencies or special spending needs. Just be aware that if you spend your retirement savings, it won't be there to generate income for you. It may be a tough tradeoff, but you'll need to think carefully about your purchases before you withdraw any funds.

The remaining-wealth analyses also provide an argument in favor of diversifying your sources of retirement income. For instance, you may want to set up some annuity income in order to increase the amount of guaranteed retirement income you'll receive, and then invest your remaining savings to generate income that also gives you access to savings and the potential to realize higher retirement incomes if economic conditions are favorable.

Whew! Nobody ever said that generating reliable, lifetime retirement income from savings was easy. But you won't regret the time you spend learning about your options and making the choices that best meet your goals and circumstances.

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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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