Unlocking the Annuity Puzzle: why Canadians avoid what seems to be the perfect Retirement vehicle

My latest MoneySense Retired Money column looks at a curious Canadian phenomenon called The Annuity Puzzle: that while life annuities sold by insurance companies seem to have all sorts of compelling reasons to acquire them, more often that not retirees shun them.

You can find the full column by clicking the hypetexted headline here: Unlocking the Annuity Puzzle: Why Canadians avoid what seems to be the perfect retirement vehicle

Financial planner Robb Engen recently tackled this puzzle in his Boomer & Echo blog, illustrated in the above graphic. You can find the full blog here: Why Canadians avoid one of Retirement’s most misunderstood Tools.

Engen notes that experts like Finance professor Moshe Milevesky and retired actuary Fred Vettese say “converting a portion of your savings into guaranteed lifetime income is one of the smartest and most efficient ways to reduce retirement risk.” Vettese has said the math behind an annuity is “pretty compelling,” especially for those without Defined Benefit pensions.

 Engen observes that a life annuity is “the cleanest version of longevity insurance … You hand over a lump sum to an insurer, and they guarantee you monthly income for life. If you live to 100, the insurer pays you. If stock markets collapse, you still get paid. If you’re 87 and never want to look at a portfolio again, the income keeps flowing.”

In other words, annuities neutralize the two big risks that haunt retirees: Longevity Risk (the chance of outliving your money) and Sequence-of-returns risk: the danger of suffering a stock-market meltdown early in Retirement and inflicting irreversible damage on a portfolio.

Despite all the seeming positives about annuities, Engen notes that “almost nobody buys one.” He cites a Vettese estimate that only about 5% of those who could buy an annuity actually do so.

A chance to lock in recent portfolio gains?

Even so, the new Retirement Club created by former Tangerine advisor Dale Roberts earlier this year — see this blog posted on this site in June  — recently featured a guest speaker who extolled the virtues of annuities: Phil Barker of online annuities firm Life Annuities.com Inc. Barker said many clients tell him they’ve done really well in the markets over the last 20 years and now they’d like to lock in some of those gains. They may be looking for Fixed-Income strategies and many were delighted with GIC returns when they were a bit higher than they are now (some in the range of 5%). But they less happy with the new rates on GICs now reaching maturity. Meanwhile, annuities have just come off a 20-year high in November 2023 so the time to consider one has never been better, Barker told the Club in August. With annuities you can lock in a rate for the rest of your life so if your timing is good, it may make sense to allocate some funds to them.

See the full MoneySense column for the list of the eight life insurance companies that offer annuities in Canada, how they are covered under Assuris, when Annuities really shine, and how to fund annuities with registered or non-registered accounts.

 I suspect the Club’s session on annuities was enough to get a few members off the fence. I have long been impressed by the aforementioned Fred Vettese, who often argues that those preparing to convert their RRSPs into RRIFs might opt to annuitize 20 or 30% of the amount, thereby transferring a chunk of investment risk from the do-it-yourself investor on to  the shoulders of a Canadian life insurance company.

How much can annuities pay?

At the Retirement Club, Dale Roberts recently posted the following sample payout amounts for $100,000 annuities for males and females of various ages:

Sample Annuity Payouts

At the Retirement Club, Dale Roberts recently posted the following sample payout amounts for $100,000 annuities for males and females of various ages:

From where I sit, those returns seem relatively attractive. So again, why don’t Canadians flock to Annuities? Engen’s blog cites at least six reasons, led by loss of liquidity and control and worries about dying early and reducing bequests for heirs. Consumers tend to perceive annuities as complex and so have low product awareness. There may also be some bias from advisors in a position to sell them.

My takeaway is similar to what Vettese has argued: it’s not an all-or-nothing decision to annuitize. Or as Engen puts it, “I’m not suggesting you turn every penny of a million-dollar portfolio into an annuity but carving out a portion to create your own personal pension will add another valuable and guaranteed income stream that you never have to worry about managing in retirement.”