Is this a good plan for retirement?

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jerseyru
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Is this a good plan for retirement?

Postby jerseyru » Tue Nov 27, 2012 7:31 am

I'm always trying to think of the best way to prepare for retirement. Here is my latest idea. Please give me your feedback.

I am 34 years old and am currently in the Air Force. I'll retire in 4 years probably at E-7. At that time I will receive a pension of about $1800-$1900 after taxes. I would really like to retire permanently at 55.

Here is the plan I am currently looking at

1. Stash $1500 of my pension in ETF's for the next 17 years. Hopefully I'll average about 7% which would give me about $600K @ 55
2. Take that $600K and buy an annuity. The annuity calculator I used gave me $2500 a month
3. I am refinancing my mortgage to a 15 year next year, so I won't have a mortgage. I also don't plan on having consumer debt when I turn 55. I currently live off of $5K a month with $1K of that going to savings.

With all of that, I should generate about $4300 a month ($2500 of that is pretax). Is this a good Idea? If not why, and what would you do different?

kombat
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Re: Is this a good plan for retirement?

Postby kombat » Tue Nov 27, 2012 8:19 am

I would never buy an annuity. If you crunch the numbers, on average you end up doing worse than you could do on your own just buying index funds.

If you think about it, it has to work that way. If it didn't, then the insurance company would lose money on them and wouldn't offer them. In order to be profitable, the insurance company has to amortize the risk over several clients, skim a percent off for themselves, and distribute the remaining profits across plan members. Some will die early and result in a net win for the insurance company. Some will linger around for decades and drain away profits. But actuarially, the insurance company picks a rate of return that ensures that on average, they'll still make a profit.

So cut out the insurance company altogether and keep that profit in your portfolio, where it belongs.

Cicero
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Re: Is this a good plan for retirement?

Postby Cicero » Tue Nov 27, 2012 8:27 am

kombat wrote:So cut out the insurance company altogether and keep that profit in your portfolio, where it belongs.


It's not quite that simple, right? It's classic risk v. reward. An annuity means you are giving up potential profits, but you are also reducing the downside risk of poor market returns and/or longevity.

Like you said, an insurance company can spread that risk out over a pool of clients and over long time horizons. An individual can't easily spread risk (especially longevity risk) in a similar way.

jerseyru
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Re: Is this a good plan for retirement?

Postby jerseyru » Tue Nov 27, 2012 8:28 am

kombat wrote:I would never buy an annuity. If you crunch the numbers, on average you end up doing worse than you could do on your own just buying index funds.

If you think about it, it has to work that way. If it didn't, then the insurance company would lose money on them and wouldn't offer them. In order to be profitable, the insurance company has to amortize the risk over several clients, skim a percent off for themselves, and distribute the remaining profits across plan members. Some will die early and result in a net win for the insurance company. Some will linger around for decades and drain away profits. But actuarially, the insurance company picks a rate of return that ensures that on average, they'll still make a profit.

So cut out the insurance company altogether and keep that profit in your portfolio, where it belongs.



Thanks, that was my second option at first I was considering going with Vanguard Managed Funds (https://personal.vanguard.com/us/funds/ ... PayoutList)

What do you think of this option?

nelson
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Re: Is this a good plan for retirement?

Postby nelson » Tue Nov 27, 2012 9:01 am

I'd prioritize paying off all debts including the mortgage first. Then if you still want to work put extra into index funds through whatever retirement plan your company offers, as well as a Roth. I had no idea military pensions were worth so much. I will get a pension but it starts at 55, not 38. Good luck to you.

jerseyru
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Re: Is this a good plan for retirement?

Postby jerseyru » Tue Nov 27, 2012 9:54 am

nelson wrote:I'd prioritize paying off all debts including the mortgage first. Then if you still want to work put extra into index funds through whatever retirement plan your company offers, as well as a Roth. I had no idea military pensions were worth so much. I will get a pension but it starts at 55, not 38. Good luck to you.


That is my main priority. 0 consumer debt and 0 mortgage debt. That will happen. I was just wondering if my means of generating income looks feasible.

As for military pensions, usually you get 50% of base pay if you retire at 20 years. It goes up 2.5% per year after that maxing at 75% at 30 years. Imagine an Officer that retires at O-6 with base pay $10736/month at 30 years. His pension is $8052/month for life!

nelson
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Re: Is this a good plan for retirement?

Postby nelson » Tue Nov 27, 2012 10:09 am

Honestly, you don't really need an income other than your pension and new job so I'd skip the annuity. Annuities are for retired people who want to "buy" a pension so their retirement is secure.

jerseyru
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Re: Is this a good plan for retirement?

Postby jerseyru » Tue Nov 27, 2012 10:14 am

nelson wrote:Honestly, you don't really need an income other than your pension and new job so I'd skip the annuity. Annuities are for retired people who want to "buy" a pension so their retirement is secure.



Sorry, I probably worded that wrong. I had planned on stashing $1500/month of my pension into ETF's until I turn 55. I just needed a suggestion of what to do with that money once I turn 55 to generate additional money to supplement my pension.

Tightwad
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Re: Is this a good plan for retirement?

Postby Tightwad » Tue Nov 27, 2012 10:21 am

kombat wrote:I would never buy an annuity. If you crunch the numbers, on average you end up doing worse than you could do on your own just buying index funds.

If you think about it, it has to work that way. If it didn't, then the insurance company would lose money on them and wouldn't offer them. In order to be profitable, the insurance company has to amortize the risk over several clients, skim a percent off for themselves, and distribute the remaining profits across plan members. Some will die early and result in a net win for the insurance company. Some will linger around for decades and drain away profits. But actuarially, the insurance company picks a rate of return that ensures that on average, they'll still make a profit.

So cut out the insurance company altogether and keep that profit in your portfolio, where it belongs.

Agreed. Annuities are horrible investments. They are for people who can't or won't manage their money.

nelson
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Re: Is this a good plan for retirement?

Postby nelson » Tue Nov 27, 2012 10:31 am

I wouldn't say they're horrible. They just have a specific use. If you have no heirs and want to live the rest of your life without having to worry about income, they're pretty good at that.

However, in the current environment I think interest rates are too low to commit that much money for that much time even if you're retired. I think inflation would be a bigger fear for me than the stock market falling over a long period of time.

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Re: Is this a good plan for retirement?

Postby DoingHomework » Wed Nov 28, 2012 11:30 am

Cicero wrote:
kombat wrote:So cut out the insurance company altogether and keep that profit in your portfolio, where it belongs.


It's not quite that simple, right? It's classic risk v. reward. An annuity means you are giving up potential profits, but you are also reducing the downside risk of poor market returns and/or longevity.

Like you said, an insurance company can spread that risk out over a pool of clients and over long time horizons. An individual can't easily spread risk (especially longevity risk) in a similar way.


The annuity that was mentioned returns 5%. In 17 years you should be able to beat that with US Treasuries - by definition there is no risk and guaranteed reward.

With an annuity you are taking a risk. You are gambling that the insurance company will be able to continue to meet its obligations. You are also taking the same inflation risk as you would with any bond.

It's really hard to make a case for an annuity over a properly constructed and diversified bond portfolio.

stannius
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Re: Is this a good plan for retirement?

Postby stannius » Wed Nov 28, 2012 6:44 pm

Y'all are being a little too hard on annuities. An annuity can actually allow you to to draw more from your portfolio than doing it yourself, because you don't have to base your withdrawal on the assumption that you'll live to 100. Instead, you can pool your longevity risk with others. If you have a large enough portfolio to support yourself without that, and something useful to do with the money (e.g. heirs, charity) if you live anything less than your maximum possible age, then go ahead and don't use one. But they are worth considering.

You can get an annuity that goes up with inflation, so that takes care of that objection.

It's true that most purveyors of annuities are terrible. But in that sense, annuities aren't any worse than used cars. Most salespersons thereof are sleezeballs, but if you go to a reputable seller, it can be a wise financial choice.

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Re: Is this a good plan for retirement?

Postby DoingHomework » Thu Nov 29, 2012 2:40 pm

stannius wrote:Y'all are being a little too hard on annuities. An annuity can actually allow you to to draw more from your portfolio than doing it yourself, because you don't have to base your withdrawal on the assumption that you'll live to 100. Instead, you can pool your longevity risk with others. If you have a large enough portfolio to support yourself without that, and something useful to do with the money (e.g. heirs, charity) if you live anything less than your maximum possible age, then go ahead and don't use one. But they are worth considering.

You can get an annuity that goes up with inflation, so that takes care of that objection.

It's true that most purveyors of annuities are terrible. But in that sense, annuities aren't any worse than used cars. Most salespersons thereof are sleezeballs, but if you go to a reputable seller, it can be a wise financial choice.


You are talking about a SPIA (Single Premium Immediate Annuity) and I agree that type is worth considering. The OP was implicitly referring to that as well. But with the kind of return they offer it usually does not make sense to buy one at 55. Retire at 55, draw on the bond portfolio for 20 years, then consider a SPIA at much lower cost.

jerseyru
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Re: Is this a good plan for retirement?

Postby jerseyru » Sat Dec 01, 2012 3:48 am

After thinking about it, I don't think an annuity is the right choice for me. I have a son when I die, I'd like to have something substantial to leave to him. I think when the time comes I'll more than likely go with a fund like the Vanguard Managed Payout Fund: https://personal.vanguard.com/us/funds/ ... PayoutList.

DoingHomework
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Re: Is this a good plan for retirement?

Postby DoingHomework » Sat Dec 01, 2012 7:13 am

jerseyru wrote:After thinking about it, I don't think an annuity is the right choice for me. I have a son when I die, I'd like to have something substantial to leave to him. I think when the time comes I'll more than likely go with a fund like the Vanguard Managed Payout Fund: https://personal.vanguard.com/us/funds/ ... PayoutList.


I am definitely not a fan of annuities. But the right kind, from the right company can be ok in some situations. In yours, a SPIA might be worth considering. I would talk with Vanguard since they sell annuities as well but at much lower fees than others. The desire to leave a lump sum can be arranged as well.


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