Afraid you’ll outlive your retirement savings?
by Seth PearsonA recent study from the renowned Wharton Financial Institutions Center is an excellent overview of what most Americans are facing as they begin to retire and balance their income and expectations for the rest of their lives.
Front and center is an examination of the most common financial planning model assumptions that are based on average expected life spans. They require income for 20 years after retirement until age 85.
However, half of you can expect to live beyond age 85. What do you do for money then?
The Wharton study shows that a fixed-income annuity is the best asset class to effectively address the likelihood of you outliving your nest egg. It can generate an income stream for life with the risk of outliving age 85 transferred to the life insurance company providing the annuity. The study also concludes that an income stream for life using an income annuity can be constructed at a cost at least 40 percent less than a portfolio of traditional stocks, bonds and cash.
A fixed-income annuity is not the only vehicle to consider for similar circumstances. Consider making a contribution to Harvard University's endowment through a charitable remainder trust that creates an income stream (income annuity) watched over by the investment managers who run Harvard's endowment. For the last 30 years, they have produced an average annual return of 14.3 percent.
You can Google “Harvard Endowment Charitable Remainder Trust” for a great deal of information. Here is how they describe their program:
A charitable remainder trust is a simple agreement between you and Harvard. In exchange for your irrevocable gift of cash, securities, or other property, Harvard promises to pay you a guaranteed income, for your life or a specified period.
A Harvard CRT operates in the following way:
You transfer cash, securities, real estate, or other property to a trust. You then receive an income tax deduction and pay no capital gains tax on the property transferred to the trust. During its term, the trust pays income each year to you or to anyone you choose at the outset.
You can structure your CRT to pay you a fixed dollar amount each year (a charitable remainder annuity trust). Or, you can design it to pay you a fixed percentage of the value of the trust, which changes each year (a charitable remainder unitrust.)
If you are over age 45, you can establish a Harvard-managed CRT with a gift of $250,000 or more. Assets contributed to the trust may include: cash, publicly traded securities, closely held stock, real estate, and, in some instances, tangible personal property such as works of art.
The question becomes one related to the value of your income stream. An insurance company uses your lump-sum payment with which you buy your annuity in a portfolio that creates your return.
But here's the rub: The insurance company income annuity average internal rate of return today is 3 percent or less.
If you contribute to Harvard, you can potentially increase your lifetime income stream by a significant margin. Even if you or your children are not alumni of Harvard, the success of the Harvard Management Company is outstanding and represents some of the best investment management in the country.
When the trust ends at the death of the donor, the remaining principal is transferred to Harvard for a purpose specified by you, including scholarships for students from your town here on Cape Cod.
Since there are only a few proven ways to guarantee that your money lasts for the rest of your lifetime, there are important financial decisions you should make when you are on the verge of retirement. The Wharton study concludes that a $1 million nest egg can provide the same lifestyle as $600,000 invested in an income annuity.
The charitable remainder trust may well be a far superior alternative to an insurance company annuity. This same trust has been used more than 700 times at Harvard University to help very well-advised families sell highly appreciated real estate, businesses and stock without capital gains taxes. It creates a much better after-tax stream of income for life. It’s like buying a pension or more Social Security income, which is guaranteed for the rest of your lifetime.
Past performance is certainly no guarantee of future returns. However, if the endowment continues the performance of the last 30 years, a husband and wife age 70 selling a $375,000 highly appreciated rental property would receive an income stream of more than $900,000 during their joint life expectancy.
This income would substantially reduce the risk of spending down the remaining assets in retirement. It also means that retirees might be able to afford a much improved lifestyle with 40 percent less in retirement assets.
Seth Pearson, CFP, is principal of Pearson Financial Services in Dennis and is the author of the book “The Two Million Dollar Gift: Dynasty Trusts. Why Leave Your Assets Any Other Way.” He can be reached at (800) 385-7925 or seth@spearsonfinancial.com.
Published in Cape Business November/December 2007
Seth Pearson Seth Pearson, CFP, is author of “The Million Dollar Gift” and has conducted numerous financial planning seminars. His firm, Pearson Financial Services, provides wealth management services and specializes in tax strategies for highly appreciated real estate. 
Cape Business Newsletters
Keep up with the latest issues affecting your business and your life! To sign up for any of the Cape Business newsletters, click here.