Like the idea of guaranteed income?

Ruth Saldanha: At the recently held Morningstar Executive Forum in Toronto panellists discussed products that retirees find useful. And top among them were reverse mortgages and annuities. To discuss annuities, Morningstar Investment Management's Head of Retirement Research David Blanchett is here today.

David, thank you so much for being here today.

David Blanchett: Thanks for having me.

Saldanha: To start up with, what exactly is an annuity?

Blanchett: Sure. So, the word annuity means different things in different locations. What its most common traditional form is a promise from an insurance company to pay someone some kind of income for life. So, you transfer some amount of wealth, and they guarantee you as long as you're alive, they'll give you a paycheck effectively.

Saldanha: So, for investors, what kind of investor should consider annuities?

Blanchett: So, I think that there's a lot of benefits to annuitization for retirees. I think that a key is that it really simplifies the income process. So, when you retire and you have your savings, there's all these uncertainties. There's how long you're going to live, there's what is the return of the market, what can I afford to withdraw from my portfolio. Annuity simplifies that. And so, I think that the individuals that like that certainty, are going to live a long time, those are the folks that should really think about transforming their wealth from the asset into that annuity.

Saldanha: Assuming an investor wants to buy an annuity, how much should they buy?

Blanchett: So, there's no one right answer for everyone. I think that in the U.S. one of the most common perspectives that we take, or just in general, is to think about how much income do you have to have for life. And so, this is called like, what are your nondiscretionary expenses, whatever else it is. And so, you ask yourself as a retiree, what do I need to have regardless of how the markets perform every year as long as I'm alive. And I think that's a good starting point. So, think of your base pension benefits and then ask yourself, okay, how much more, you know, top of that, just to make sure I'm okay. And that to me is like a starting place because in reality, people could annuitize a lot more than that. If you're going to live longer than average, if you like the idea of the guaranteed income, you could annuitize almost all of your wealth. So, I think that it's really a personal decision. But the starting place is, what do I need guaranteed for life and make sure you have that in some form of an annuity.

Saldanha: For Canadians in particular, we have the Canada Pension Plan, which is an annuity-like product. Should that income also be considered while making these decisions? Should that be a factor?

Blanchett: Definitely. And so, again, it's what are all of your existing sources of guaranteed income? You could have a private pension through your employer, you could have this – you have CPP benefits. Whatever you've got, you know, add those up. And then, compare that to what you need or want to have every year and then that difference is kind of the starting place for how much to think about annuitizing.

Saldanha: Deferred versus immediate, how should I differentiate between the two?

Blanchett: Sure. So, academics love deferred annuities, because, for most people the risk of going broke isn't that you will go broke tomorrow or in five years. It's that some point in the future if markets misbehave or I'm still alive, when could I be out of money? And I think that that's the kind of the most natural place to think about when annuity should start. That's called a longevity insurance, deferred income annuity. The immediate annuity starts as soon as you buy the annuity, like, the next day, the next month, whatever it is. And I think that they can work too, because, again, they simplify the process of lifetime income. And so, deferred annuity makes the most sense, if you want to just say, hey, you know, at some age, I want to make sure no matter what happens in the markets, I'm taken care of. The immediate annuity would be more for someone that wants to have that guaranteed base starting as soon as possible.

Saldanha: Finally, annuities are generally considered for older investors, but as a young investor, at what stage should I start thinking about it and thinking about making this decision?

Blanchett: Right. So, I mean, you're not going to probably want to buy an immediate annuity when you're like 35-years-old. I think that as you approach retirement, they become a better thing to think about purchasing because you need more certainty about when you're going to retire, what your assets are, what your goals are, et cetera. I mean, in theory, you could buy a deferred income annuity at the age of 50 to start at the age of 90 if it's available. But I mean, we typically think about offering them or advising it to them maybe 10 years out from retirement. But even then, I think that you can think about what it could mean to you to fund retirement as early as you want to, but seriously, think about buying one as you're moving into retirement because that's when, again, you have a better sense of what you can accomplish, what your assets are, et cetera.

Saldanha: Thank you so much for joining us today, David.

Blanchett: Thanks for having me.

Saldanha: For Morningstar, I'm Ruth Saldanha.