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New tool helps estimate your retirement income

(MoneyWatch) How much reliable, lifetime retirement income can you generate from your savings? That's a critical question for baby boomers approaching their retirement years without traditional pension benefits. These days, most people are on their own to use their IRAs and 401(k) balances to generate a retirement income that supplements Social Security benefits -- and they don't have a clue about how to estimate how much retirement income they can actually generate.

Fortunately, there's a new tool you can use as you approach retirement that can help you estimate what potential income you can expect. BlackRock recently introduced the CoRI Retirement Index, which provides a daily measure of how much annual income your current savings could generate beginning at age 65. According to BlackRock's website, the tool is designed to be used only by people age 55 to 64 because "the required calculations for each CoRI Retirement Index is based on precise information for this age group."

The basic application is fairly simple. After visiting the BlackRock site and clicking on the CoRI Retirement Index link, move the slider to your current age, and the index will tell you how much savings it would take to provide one dollar of annual retirement income. For example, the index recently produced a value of $15.81 for someone age 60. That means that if a 60-year-old wanted an annual retirement income of one dollar starting at age 65, it would take a current amount of savings of $15.81 to generate this income.

Then, if you plug in the value of your current savings, the system will show you how much annual retirement income you might expect to receive at age 65. In the above example, I hit the button "calculate retirement income" and it asked me for my current level of savings. I input $100,000 and received a value of $6,325. This means that if I had savings of $100,000 at age 60, my estimated retirement income at age 65 would be $6,325 per year.

The index is intended to approximate the retirement income you'd receive if you invested conservatively from your current age until retirement at age 65, and then bought an inflation-adjusted immediate annuity to generate retirement income. You can't invest in the index and it's not intended to provide retirement planning advice. Instead, it's a planning tool to help you determine if your savings are on track for generating the retirement income you need. The index is updated daily to reflect current bond rates and annuity purchase rates.

In the process of testing the tool, I compared the results from the CoRI Retirement Index and found it produced results that are similar to my most recent retirement income scorecard for immediate annuities.

If you decide to use the index, as with any tool, you'll want to understand how it's constructed and the proper applications. After all, you wouldn't use a Phillips head screwdriver with a flat-head screw.

First, because the index assumes you'll invest your savings conservatively until age 65 and then buy a competitively priced annuity, it's important to understand that if you use other investments and methods of generating retirement income, your retirement income could be much different.

For example, the CoRI Retirement Index produces significantly higher amounts of retirement income than the amounts you would receive if you invested in a portfolio of stocks and bonds, and then used systematic withdrawals with the "four percent rule" as your guide to generate your retirement income. The reason is, with systematic withdrawals, you're self-insuring your longevity risk and need to hold back your withdrawals in case you live a long time or experience poor investment returns.

With an immediate inflation-adjusted annuity, the insurance company guarantees your monthly payments no matter how long you live, and it also guarantees your retirement income regardless of returns in capital markets.

Even if you buy an immediate annuity with your retirement savings, your retirement income could be different from the index value for the following reasons:

  • The index is constructed to produce the same average values for men and women. If you buy an annuity on the open market, insurance companies require more savings from women than men, because women are expected to live longer than men on average.
  • The index assumes you're single. If you buy a joint and survivor annuity that pays income as long as either you or your beneficiary is alive, you'll receive a lower retirement income.
  • The index assumes you'll buy a simple, competitively priced annuity. If you buy an annuity with high transaction charges and/or expensive bells and whistles, you could receive a lower retirement income.
  • The index assumes you'll start your retirement income at age 65. Starting sooner will produce lower income amounts, and starting later will produce higher income amounts.
  • The index assumes your retirement income is indexed for inflation. If you buy an immediate annuity that is fixed in dollar amount, you'll receive a higher retirement income.

It's smart to compare amounts of retirement income you might actually receive and understand the reasons why there may be differences from the index values. That can help you make more informed decisions about your retirement income.

If you're working with a financial advisor who estimates amounts of retirement income for you that are different from the index, you should ask for an explanation and understand the reasons for the differences. Keep in mind that there can be reasonable explanations for these differences. Your job is to work with an advisor who understands the various methods of producing retirement income and has your best interests at heart.

BlackRock's online system contains links to additional help with planning a secure retirement income. Chip Castille, managing director at BlackRock, said the company is planning future enhancements of the index that will help you personalize your estimates of retirement income, such as using retirement ages other than 65 and selecting a joint and survivor annuity instead of a single life annuity.

BlackRock's CoRI Retirement Index can help you with a critical retirement planning task -- generating retirement income from your savings. The more you learn about this important topic, the better your retirement can be.

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