Written By : Elaine Silvestrini
Edited By : Kim Borwick
This page features 12 Cited Research Articles

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With interest rates remaining stubbornly low, some people hesitate to purchase long-term financial products, such as annuities, because they fear they will be forever locked in to low returns on their retirement savings. One way to overcome that issue is through annuity laddering, a strategy of purchasing several smaller annuities over a period of years.

One of the challenges in purchasing a financial product or making an investment is knowing the best time to enter the market to maximize return.

There really is no fool-proof way to predict the future and no way to know how interest rates will change and investments will perform in coming years.

Invest in a long-term product when performances are relatively poor and interest rates are in what turns out to be a dip, and you could be stuck for years lagging behind. This can be especially consequential when you’re talking about setting up your retirement funds, which should not be so locked in that your income can’t keep up with the increases in your cost of living.

In other words, you don’t want to tie up all your money in what you later learn is rock-bottom interest-rate accounts with no ability to move it into investments that would perform better. At the same time, you don’t want to wait to invest in hopes interest rates will go up only to see the rates sink even lower.

So if you can’t tell what’s going to happen in the future, what can you do to protect yourself and get the most out of your money?

One way to hedge your bets is a strategy known as laddering, or buying multiple financial products that have different end dates. Laddering is an established method of investing in CDs and bonds, and it’s also a good idea for annuities.

Using laddering, you might, for example, buy an annuity every year for several years to get the best deal available under the conditions present at each purchase. Those conditions include changing interest rates and your ever-reducing life expectancy. Your age at the time of purchase and especially your age when payouts will begin will affect what kind of deal you can get on an annuity because life expectancy is a major consideration when determining annuity rates.

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Different Ways to Ladder

Maybe you have a total of $400,000 to invest in annuities. You can use $100,000 each year toward an annuity purchase.

This also allows you to invest part of your retirement nest egg to see if you’re comfortable with annuities before tying up a large percentage of your savings.

Another way to ladder annuities is to buy several fixed-rate annuities with different surrender periods. The surrender period is the amount of time you must wait to withdraw funds from your annuity without facing a penalty. If you do need to take money out of the annuity, other than what is allowed in the contract, you will have to pay a surrender charge. Surrender periods can be anywhere from three years on up.

At the end of the surrender periods, you can withdraw your money without penalty as long as you’re at least 59.5 years old. Or you can move the funds to an annuity with better terms through a 1035 exchange. These exchanges are a way to trade in one annuity for another without tax consequences. The 1035 refers to the provision in the tax code that covers them.

But if the annuity contract is as good as the offerings at the end of the surrender period, you can keep the annuity contract as is. So if you have several annuities with different surrender periods, you can review the terms at different times and decide whether you could get better terms in another annuity.

You can also ladder different types of annuities, investing some of your money in the purchase of fixed annuities while having some of your money in indexed or variable annuities. This allows you to have a balance of the advantages and disadvantages of each type.

Briefly, fixed annuities pay at a rate that is fixed in the contract. While it may be reset at specified times, it is not dependent on the performance of investments. Variable annuities, on the other hand, have payouts tied to the performance of investments in a portfolio you create when you purchase your annuity. And index annuities have payments tied to the performance of a specified index, such as the S&P 500. Each type of annuity has different benefits and drawbacks.

Finally, in addition to laddering the actual purchase of annuities, you can ladder when they will start paying you income, beginning at the age of 59.5. The older you are when you start receiving the payments, the higher the payments will be. This is because life expectancy is one of the factors that determine annuity payout amounts. The longer your life expectancy, the lower your payments will be.

In addition to allowing you to take advantage of different market conditions, having annuities from different companies also gives you some measure of protection against the unlikely chance that one of the insurance companies that provide the annuities runs into financial problems.

Last Modified: January 6, 2020

12 Cited Research Articles

  1. Bulmer, S. and Hedstrom, K. (2012, June 21). Customize Annuity Options With Laddering. Retrieved from https://www.thinkadvisor.com/2012/06/21/customize-annuity-options-with-laddering/
  2. Carey, M. (2018, September 4). 2018 Guide to Bond, CD And Annuity Laddering. Retrieved from https://www.forbes.com/sites/mattcarey/2018/09/04/2018-guide-to-bond-cd-and-annuity-laddering/#21475ffc2d00
  3. Carlson, B. (n.d.). How to Use the Annuity Ladder for Higher Security. Retrieved from https://www.retirementwatch.com/the-annuity-ladder-to-higher-security
  4. Chevreau, J. (2017, December 14). Beef up retirement cash flow. Retrieved from https://www.moneysense.ca/save/retirement/annuities/laddered-annuities-retirement-cash-flow/
  5. Haithcock, S. (2014, February 11). How to use annuity ladders to transfer risk. Retrieved from https://www.marketwatch.com/story/how-to-use-annuity-ladders-to-transfer-risk-2014-02-11
  6. Haithcock, S. (2018, December 24). Strategies For Laddering Annuities. Retrieved from https://www.thebalance.com/annuity-laddering-145972
  7. Insured Retirement Institute. (n.d.). Taxation of Annuities. Retrieved from https://www.irionline.org/government-affairs/annuities-regulation-industry-information/taxation-of-annuities
  8. Kagan, J. (2018, May 26). Annuity Ladder. Retrieved from https://www.investopedia.com/terms/a/annuity-ladder.asp
  9. Korn D.J. (2017, October 11). How to hedge risk with annuity ladders. Retrieved from https://www.financial-planning.com/news/the-pros-cons-of-laddering-annuities
  10. Myers, R. (n.d.). Building a Ladder to Financial Security. Retrieved from http://online.wsj.com/ad/article/annuities-buildingladder
  11. Roth, A. (2019, January 14). An Annuity Hater Revisits SPIAs. Retrieved from https://www.advisorperspectives.com/articles/2019/01/14/an-annuity-hater-revisits-spias
  12. Sheedy, R. (2012, April 19). Hedge Bets With an Annuity Ladder. Retrieved from https://www.kiplinger.com/article/retirement/T003-C000-S001-hedge-bets-with-an-annuity-ladder.html