Advising clients wanting to retire early: how annuities can bridge the gap

Now that Americans are healthier, more active, and living longer than ever before, outliving retirement income is a real concern.

And that concern becomes even more pressing for those considering early retirement. Fortunately, annuities can step in and support these individuals.

“Annuites may bring confidence to an early retirement strategy by offering growth potential, protection from market swings, and guaranteed lifetime income,” said Tim Seifert, SVP, head of retirement solutions distribution at Lincoln Financial.

As an advisor, it’s your job to understand how annuities can help individuals who want to leave the workforce before their 60s. With this knowledge, you may guide them towards a comfortable, fulfilling retirement.

What makes clients wary

Since most annuities are tax-deferred, clients who want to retire early are hesitant to leverage them.

“If an individual plans to retire before the age of 59 1/2, withdrawals can trigger IRS penalties. Despite this, annuities can be useful for someone who wants to stop working before 60,” said Angie Welsh, founder and president at My Annuity Agents.

Advisors and clients need to be mindful of this tax hurdle and combat it with a bit of creativity and thoughtful planning.

Annuity strategies for early retirees

Fortunately, there are several advanced ways annuities can be designed to support clients with early retirement, including:

Annuity ladders

An annuity ladder, which includes annuities with staggered maturity dates might make sense for some individuals. For example, rather than placing $400K into one annuity, a client might divide it into five $80K contracts spread over a five-year term.

According to Robert Cucchiaro, certified financial planner and president of Summit Wealth & Retirement Partners, annuity ladders create a gradual transition into annuitized income while allowing for flexibility.

“Clients can also spread their tax liability effectively by being strategic about when they take distributions,” Cucchiaro said.

Charitable remainder trusts (CRTs) and annuities

Those with significant assets and philanthropic goals may want to consider pairing a CRT with an annuity.

With this approach, they’ll donate assets to a CRT, which will then be removed from their taxable estate, leading to an immediate charitable deduction. The CRT can later purchase an annuity to provide guaranteed income to the client and donor for life.

“They’ll turn assets that would otherwise face capital gains taxes into a tax-advantaged income stream,” Cucchiaro said.

Annuity splits

This is where the individual divides capital between immediate and deferred annuities, creating income for both the present and future while keeping tax exposure in check.

The first portion goes to an immediate annuity to provide current income, while the second portion grows tax-deferred in a deferred annuity.

Once a client depletes portion A, portion B has hopefully grown in value to either replace or exceed the original principal amount.

Ways to support clients with early retirement

These simple yet highly effective strategies can ensure financial security and peace of mind for any client who hopes to quit working early.

Be honest

When a client suggests they want to retire early, it's important to have an honest conversation with them about whether it is realistic and wise to make this decision. Most clients appreciate honesty, even when it may not be what they want to hear.

“Remember, you’re there to advise them, and if they really don't have the money to retire early, they need to hear it from a professional,” said Angie Welsh, president and founder at My Annuity Agents.

Understand the “why”

Be sure to walk through the client’s reasoning. Many people who retire early regret the decision, and that is generally because they underestimate their costs during retirement.

“Feeling like you're on a strict budget isn't a fun way to retire, and clients should hear this,” Welsh explained.

Perform a spending analysis

If clients seem to be right on the edge of having enough to retire early, encourage them to watch their spending closely for six months so they have a realistic assessment of income requirements. Once they know their income needs, find and address their income gap.

Focus on lifestyle, not products

According to Seifert, the most effective annuity professionals start by shifting the conversation away from products and portfolios and toward how clients want to live in retirement.

“By leading with life-first conversations and then connecting those goals to income strategies that create certainty, you can reframe annuities as more than a financial product,” he explained.

At the end of the day, you want to position annuities as a tool that assures an early retiree of lifetime income and freedom to spend with confidence.

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Anna Baluch is a finance reporter and writer with more than a decade of experience. Contact her at [email protected]