How best to annuitize defined contribution assets?

Abstract

401(k) plans provide little guidance on turning accumulated assets into income. Insurance against the risk of outliving one's assets is available through immediate annuities, deferred annuities, and additional Social Security through delayed claiming. Under this Social Security bridge option, participants would tap their 401(k) for payments equal to their Social Security to delay claiming. This paper compares these three options in simulations against a baseline in which no assets are annuitized. In each option, assets not allocated to purchasing lifetime income are consumed following the required minimum distribution; robustness of results to optimal drawdown conditional on annuitization strategy is also assessed. The analysis finds that, when market and health shocks are included alongside longevity uncertainty, the Social Security bridge option is generally the best for households with median wealth. Wealthier households can benefit from combining the bridge option with a deferred annuity.

Fixed and variable longevity income annuities in defined contribution plans: Optimal retirement portfolios taking social security into account

“…The difference is used to pay income taxes and build up inheritance capital. This confirms that the retiree behaving optimally is not always a hand-to-mouth consumer (unlike in Munnell et al, 2022). 2022) report, in line with their assumed rule of thumb drawdown plan when the retiree depletes all of her retirement assets by age 85 when the DIA begins paying out.…”

“…The second reason has to do with different survival probabilities: for those likely to die earlier (the least educated, here), a DIA payable from age 85 is less attractive, versus a DIA with a shorter deferral period. 23 This is similar to Munnell et al (2022) who report that wealthier retirees would have higher welfare gains by using retirement assets to purchase a fixed DIA versus delaying claiming social security benefits.…”

“…A third literature examines the pros and cons of delaying social security claiming (e.g., Hubener et al, 2016;Shoven & Slavov, 2014), but thus far these papers have not simultaneously integrated the decision to delay claiming and buy private annuities. Closest to our work is Munnell et al (2022) who discussed the possibility of using DC plan assets at retirement to finance delayed claiming or buying fixed nominal annuities. Compared with this last paper and other prior work, our contributions are to (i) embed these decisions in a full life-cycle model which starts at age 25 and runs to age 100, and (ii) incorporate optimal saving and investing across bonds and risky stocks, consumption, and withdrawal patterns for assets inside as well as outside the DC plan.…”

A common thread linking the design of guarantee and nonescalating payments of public annuities

“…We study PA policy design issues using a consistent economic framework. The accumulated wisdom in the literature of annuity puzzle provides useful guidance in choosing important factors to analyze (Benartzi et al, 2011; Munnell et al, 2022). The list includes high annuity price (which may arise from adverse selection, high administrative cost, etc.…”

Managing Retirement Incomes

“…The latter is important, as it highlights the difficulty that individuals face with trying to calculate appropriate withdrawal rates. While individuals may interpret the RMD rules as implicit guidance, the rules do not target full depletion of assets before death (Mortenson et al 2019) and may be dominated by other strategies (Munnell, Wettstein and Hou, 2019), though Sun and Webb (2013) argue that withdrawing funds in line with the percentages specified in the RMD rules would be preferable to some other rules of thumb such as spending the interest and dividend income while retaining the capital investment, or consuming an inflation-linked 4% of initial assets.…”