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Winter 2025
James H. Beam Jr.
Head of TD Wealth Planning, Retirement & Strategy (U.S.)
Mark D. Hasenauer
TD Wealth – Planning & Goals Based Advice Leader
Ashley W. Weeks
Editor-in-Chief TD Wealth – Wealth Strategist
Featured Articles
INVESTMENTS, SECURITIES AND ANNUITIES |
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NOT A DEPOSIT |
NOT FDIC-INSURED |
NOT INSURED BY ANY FEDERAL GOVERNMENT AGENCY |
NOT GUARANTEED BY THE BANK |
MAY GO DOWN IN VALUE |
Balancing a broken three-legged stool
Since before World War II, the ideal retirement in America has been described as a "three-legged stool," consisting of income equally from private pensions, Social Security, and personal savings. For many near retirees today, that aspirational stool appears to be missing legs while bearing more weight from persistent inflation.
In fact, only about 15% of private industry workers have access to a traditional pension (defined benefit plan) according to the U.S. Bureau of Labor Statistics. The Social Security Administration estimates that for nearly 40% of recipients over age 65, (37% of men and 42% of women) Social Security provides at least half of their annual income.
The steep decline of private sector pensions in recent decades has placed a greater burden on workers to intentionally save for retirement and maximize Social Security benefits. The goal for most retirees is to generate sufficient income to enjoy their lives with financial security. Since many Americans will not have access to the pension leg of the retirement income stool, it is important to consider all potential sources of retirement income and plan accordingly.
Primary Sources of Retirement Income
- SOCIAL SECURITY
Over 95% of Americans will receive Social Security and benefits are based on a worker's 35 highest earning years (indexed). While the benefit amount is tied to work history, participants can decide when to begin receiving Social Security between ages 62 and 70. Benefits will typically increase for every month a participant delays starting Social Security until age 70. - INVESTMENT PORTFOLIO RETURNS
Personal savings and investments in a retirement portfolio generate returns based on the asset allocation with interest and dividends providing spendable income. However, retirees may also require a plan to meet income needs through "decumulation," to thoughtfully spend down principal. - ANNUITIES
Annuities are an insurance product primarily designed to provide a guaranteed source of income for a set period or life in exchange for a premium. Annuities may appeal to retirees who want steady income without market volatility or fear of running out of money.1 - PART TIME EMPLOYMENT
Some retirees seek out part time work for engagement to utilize a lifetime of skills while others do so out of necessity. Regardless of the motivation, part time work can generate retirement income and may allow a retiree to delay Social Security or maintain cost effective health insurance prior to Medicare. - PENSIONS - DEFINED BENEFIT PLANS
While relatively few private industry workers have access to a traditional pension, most government employees (nearly all federal civilian employees and about 86% of state and local workers) still have access to a defined benefit plan if specific qualifications are met.
Few topics in personal finance evoke a broader range of opinions than annuities.
The basic annuity concept is remarkably simple, in exchange for cash an insurance company promises to pay a stream of income for a contracted period.
While this type of arrangement has existed since the Roman Empire, modern annuities have evolved into an alphabet soup of acronyms and products that range in complexity.
Annuities can certainly provide a needed source of retirement income. However, it is critical to understand the features and costs of different types of annuities before committing to a contract.2
Basic Annuity Mechanics
There are two key stages in the life of an annuity: accumulation and annuitization. Understanding this sequence will illuminate how different types of annuities function.
REMEMBER: During accumulation, funds in an annuity can grow tax deferred. Upon annuitization, the lump sum value of the annuity is irrevocably converted into an income stream.
Types of Annuities
Considering the abundance of products, it may be a surprise to learn that annuities come in just two primary flavors: fixed and variable. However, the variety of elections, crediting methods, and riders that accompany modern annuities can lead to confusion.
- Fixed Annuities
With a fixed annuity, the insurance company guarantees principal protection (account value will not decline) and a minimum rate of interest during the accumulation phase. A fixed annuity initially functions like a tax deferred savings account, with guaranteed interest payments increasing the account value. Certain fixed annuities called fixed indexed annuities may earn a higher annual yield based on positive performance in a specific stock index, though there will typically be an upper limit to potential gains. Regardless of how interest is credited, the distinguishing factor with fixed annuities is principal protection. - Variable Annuities
Variable annuities can lose value. Funds used to purchase a variable annuity are held in a separate account and invested based on the annuity owner's risk tolerance during the accumulation phase. The ongoing performance of the underlying investments will directly impact account value and it is important to consider the appropriate risk and time horizon when choosing variable annuity investments. - Qualified or Nonqualified Annuity?
This distinction references the type of account holding the annuity. An annuity purchased inside a retirement account, like a Traditional IRA, is a qualified annuity and will be subject to retirement account rules. Annuities are nonqualified if they are not purchased inside a retirement account.
Regardless of the type (fixed or variable), annuitization converts the accumulated value of the annuity into a guaranteed income stream.
If there are only two primary types of annuities, then why are there so many different annuity products?
While the core mechanics of fixed and variable annuities can be straightforward, the ability to customize and add options and features, called riders, can seem endless. It is important to remember that riders are optional add-ons for an additional cost designed to fit specific needs.
Many of the acronyms and industry jargon that accompany annuity products are due to the broad selection of riders. The chart below summarizes some of the most common riders available and typical features.
|
Rider Name |
Key Features |
|---|---|
|
Cost-of-living rider |
Provides for calculated increases in annuity payments (for an annuitized contact) to combat inflation. |
|
Long-term care rider |
Provides expanded access to funds without surrender charges if the annuity owner requires long term care. |
|
Disability income rider |
Provides expanded access to funds without surrender charges if the annuity owner becomes disabled. |
|
Guaranteed lifetime withdrawal benefit (GLWB) |
Provides a guaranteed minimum annual withdrawal amount each year within contract limits. |
|
Guaranteed minimum income benefit (GMIB) |
Provides a guaranteed minimum annual income at annuitization, often used to limit the downside risk with variable annuities during the accumulation phase. |
|
Guaranteed minimum accumulation benefit (GMAB) |
Provides a guaranteed minimum account value after a specified period, often used to limit the downside risk with variable annuities during the accumulation phase. |
|
Guaranteed minimum withdrawal benefit (GMWB) |
Guarantees the ability to withdraw a set percentage of the funds used to purchase the annuity. |
REMEMBER: Riders are offered for an additional cost to serve a specific purpose
Annuity Benefits and Pitfalls
Annuity Benefits to Consider
- Reliable Income in Retirement
The most significant benefit and purpose for annuities is to convert accumulated funds into a guaranteed income stream that cannot be outlived.1 - Tax Deferral
Earnings inside an annuity are tax deferred until funds are withdrawn3 - Customization
Annuities can be structured with versatile payout provisions and riders. - Contributions Are Not Limited
Non-qualified annuities are not subject to annual contribution limits. - Principal Protection is Available
Fixed annuities and certain variable annuities provide downside protection.
Annuity Pitfalls to Consider
- Costs
Some annuities charge very high fees, it is crucial to understand the fee structure before purchasing any insurance product. - Taxes & Early Withdrawal Penalties
Distributions of annuity earnings will be subject to ordinary income tax and earnings distributed before age 59.5 will likely be subject to a 10% tax penalty. - Inflation
Once annuitized the annuity income stream will likely be fixed and will not increase with inflation unless a cost-of-living rider is purchased. - Illiquidity
Withdrawals from an annuity may be subject to surrender fees in the early years and upon annuitization it may become impossible to take a lump sum disbursement for a major expense. Certain riders can assist with access to funds.
Bottom Line: Annuities often work best when they are purchased for their original intended purpose: guaranteed retirement income. It is important to evaluate any financial product or strategy in the context of a wholistic and thoughtful financial plan.
Delaying Social Security Can Provide a Boost to Retirement Income
For many Americans, Social Security forms the bedrock of retirement planning. An individual's work history based on their 35 highest earning years paying into Social Security will determine the benefit amount.
Eligible Social Security recipients have the option to file for benefits as early as age 62. However, choosing to delay Social Security benefits will result in an increased payment amount for each month of deferral until age 70.
The difference in monthly Social Security income can be quite dramatic when observing benefits initiated at age 62 compared to benefits initiated at age 70 (for an identical work record). The main risk of delaying Social Security is premature death prior to crossing the break-even point where the aggregate higher payments exceed forgone payments during deferral years.
Social Security: Primary Insurance Amount
The amount of Social Security benefits a worker will receive at Full Retirement Age based on their work history is called the Primary Insurance Amount ("PIA"). Full Retirement Age is based on an individual's birthday. For those born in 1960 or later the Full Retirement Age is 67. Individuals born before 1960 will have a Full Retirement Age between 66 and 67.
Social Security benefits are reduced below the PIA if a recipient begins taking Social Security before Full Retirement Age, and benefits are increased if a recipient begins taking Social Security after Full Retirement Age.
The following chart reflects how filing age can impact Social Security benefits. The hypothetical individual has a Primary Insurance Amount of $3,000 per month at their Full Retirement Age of 67.
Delaying Social Security until age 70 in this hypothetical case would provide more than $20,000 of extra annual income compared to filing at age 62. There are certainly instances where a retiree should take Social Security early if they have poor health or liquidity needs. However, the opportunity to delay benefits and generate additional retirement income in the future should be carefully considered.
For individuals still working it is important to review the updated participant contribution limits for various retirement accounts and consider increasing contributions in the new year.
New Rule in 2025: The SECURE 2.0 Act established a higher catch-up contribution limit in workplace retirement plans and SIMPLE IRAs for participants from ages 60 through 63 only. The higher limit is only available in the years a participant attains age 60, 61, 62, and 63. In the year a participant attains age 64 the catch-up contribution will revert to the standard age 50+ limit.
Of note, there is no increase to standard IRA contribution limits for 2025.
- The table above outlines the inflation adjusted 2025 retirement account contribution limits.
- Workplace retirement plans are not required to offer catch-up contributions.
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