Remember when you thought life would be simpler as you got older? That surely isn’t true when you need to evaluate and select fi nancial services, tasks that can seem overwhelming in time of longer life expectancy and more choices.

Take this not uncommon situation: You have a portion of your money allocated to spend over the rest of your life. You don’t want to spend so much in the early years that you run out. On the other hand, you don’t want to spend so little that you don’t enjoy as much as you can and leave too much behind. If you know precisely how long you will live and exactly how much the money will earn, the arithmetic isn’t difficult. The problem is that no one knows for sure the answer to either of those questions.

There is a solution. Immediate fixed annuities, often called income annuities, eliminate those uncertainties. The key is to determine whether the product itself is right for you.

An annuity is an insurance contract. For a fixed immediate annuity, you provide the insurance company with a lump sum of money – for example, money from a 401(k), an inheritance or sale of a home. The company promises to pay you a certain amount of income every month based on variables such as your age, gender, the income option you select, and prevailing interest rates. The company takes on the risk of figuring out how to make the money last as long as you will live, so that you don’t have to worry about it.

How immediate fixed annuities work. The insurance companies combine the savings of a large group of people and calculate how long the average person will live. Annuity payments to each person are based on average life expectancy. However, the payments only last as long that person lives. If someone dies earlier than the average, his or her remaining money is used to make payments to those who live longer than average.

Insurance companies don’t know exactly how much the money will earn either. But they make an estimate based on current interest rates of bonds and how long the money for the pool will be invested. They then decide what rate they will guarantee. In return for a fee, they take the risk that rates will be lower, plus they get the benefit if rates are higher.

The combination of the life expectancies and the rate of return produce a contract for a guaranteed income for your life. That’s the simple (and true) explanation of how an immediate fixed annuity works. But it gets complicated when you think about some of the possibilities.
What if you are hit by a car or diagnosed with a terminal illness a few months after you purchase the contract and start receiving the monthly income? In the simplest annuity contract, the payments would end. While the primary motivation for buying an annuity is to prevent outliving your money, most people do not want the financial risk of dying too early either, at least not that early in the deal.

Most annuities have provisions to limit that risk. Some guarantee payments for a minimum number of years and pay the remainder to a beneficiary if you die earlier. Others continue payments as long as the spouse (or some other person) lives. These guarantees reduce the monthly income compared with the simple annuity, but remove one of the big concerns about immediate annuities.

A wealth of choices.
Once you get beyond these basics, the “financial engineering” seems almost endless. Different insurance companies offer features like a gradually increasing income in order to help you offset inflation. Others might permit withdrawal of more money than the scheduled income if you have long-term care expenses. Some have the payments “indexed” to financial markets. Finally, some companies charge more than others in general, and different companies may charge more or less for the various features.

The idea of an income that lasts a lifetime is very appealing to many people for a part of their money. In addition to the income, an immediate annuity can be a tool to improve the allocation of your other assets. When considering this option, however, it is very important to shop around for a competitive product and to understand all the features of the contract. After all, this is a lifetime financial decision.

Here are some tips to help you:

• Take your time. Find an organization you feel you can trust. A good indicator is a willingness to take the time to explain the contracts so you can understand them.
• Look carefully at your payout options to determine which best meets your unique circumstances.
• Comparison shop. Ask different companies for their rates for the same features so you are confident that you have a competitive rate. At the same time, be skeptical if something sounds too good to be true.

An immediate annuity is an investment for financial comfort and peace of mind. Wait until you find a product that makes you feel that way.

For more on income annuities visit: www.longevityalliance.com

Joseph T. Chadwick is an independent financial and investment consultant. Before establishing his own firm, he headed an investment consulting practice with Mercer Consulting and was an executive with Vanguard Group and T. Rowe Price. He is currently working with Longevity Alliance to create an investment program.