Longevity insurance, offered by an increasing number of insurers, may seem the answer to a client's fears of running out of money. It is especially attractive for those with a family history of living well into their 80s.

Also known as a "deferred-income annuity," longevity insurance lets policyholders invest a lump sum or make periodic premium payments and set an income start date in the future. On that date, the policyholder can begin receiving insurance company-guaranteed income payments for life. Between the initial premium date and the income start date, some policies let policyholders continue to purchase more future income by making additional premium payments. Some policies also may let clients defer or accelerate the income start date as personal needs change.

Longevity policies are offered by major insurance companies, such as New York Life, MetLife, Northwestern Mutual, Symetra, The Hartford and Prudential. Contracts have period certain and joint and survivor payout riders, permitting a spouse or beneficiary to continue to receive payments in exchange for lower payouts.

"The majority of current retirees rely primarily on pensions and Social Security to meet their daily expenses, with annuities making up only 4% of their income," says Jafor Iqbal, Limra associate managing director of retirement research. "We expect to see fewer Americans retiring with pensions and more relying on their personal savings to fund retirement. Annuities will provide a reliable way to convert that savings into a guaranteed income stream."

But as tempting as this type of annuity might sound, beware that interest rates are at record lows. Because income projections are based on today's low rates, your client may have to put more money down to get his or her desired future income.
That's one reason that Samuel Baldwin, an Andover, Mass.-based financial planner, doesn't recommend this type of product. His analysis shows the real rate of return on the annuity is too low.

"Would we be happy with a 1.51% real rate of return for a 35-year investment at age 55 to age 90?" he asks. "I view this as a bit of a tough sell. The problem with the 55-year-old purchaser is that he/she would be likely to beat the internal rate of return with a moderately invested portfolio over 10 years leading up to retirement at age 66."

So is it worth considering longevity insurance for clients?

Gerontologists say that longevity planning makes sense. People may live longer. As a result, they are expected to suffer greater costs due to the need for long-term care. Advisors also face the task of helping clients with deteriorating cognitive function.

Leonid Gavrilov, gerontology professor at the University of Chicago, cites these characteristics that may help predict client longevity:

  Individuals born to mothers under age 25 have a greater chance of living to 100 compared with individuals born to older mothers.
Females typically live longer than males.
People who live in rural or low-income areas tend to have shorter life expectancies than those from urban areas.
The heaviest 15% of the population have little chance of living to a ripe old age.
The wealthier, more highly educated and married populations tend to live longer.

Those born from September through November tend to live to 100 more than those born at other times of the year.
The number of persons reaching age 85 should more than triple to 14 million from 4 million today, according to a study by William Mercer, a Chicago-based benefits consulting firm. In addition, modal ages for death-the ages at which the largest number of people die-have continued to increase and are now in the late 80s for many populations, says Chris Bone, the actuary with Edith Ltd. LLC, Flemington, N.J.

So many believe there may be a place for longevity insurance as part of a comprehensive financial plan. Northwestern Mutual, Milwaukee, for example, launched a retirement planning program dubbed "The Northwestern Mutual Retirement Strategy" to address those issues.

Its retirement plan strategy includes a single premium deferred income annuity as well as long-term care insurance and planning for investments, inflation, taxes and estates. John Grogan, Northwestern Mutual senior vice president for planning, says plans should assume people live beyond their life expectancies.

There is a 25% chance that a 65-year-old man will live to age 94, a 65-year-old woman will live to age 95, or at least one spouse of a 65-year-old couple will make it to age 98.

Say a 60-year-old male could invest $500,000 of his retirement savings in the deferred income annuity. He would get $43,094 annually when he retires at age 65.

Matthew Grove, vice president of retirement income security with New York Life, says financial advisors are giving immediate annuities a second look as a way to reduce the risk that a person will run out of money. As of the end of June, over $500 million has gone into New York Life's "Guaranteed Future Income Annuity," a deferred fixed immediate annuity, since it was issued in August 2011, he says.

The core audience for this annuity is pre-retirees between the ages of 55 and 65 who plan to retire in five to 10 years, he says. Approximately 66% of the insurer's purchasers are funding the annuity with tax-qualified money, which is money they already had in IRAs or 401(k)s and had set aside for retirement.

Grove says two of three policyholders in non-qualified accounts are selecting a start date prior to age 70½. One of three opts for payments to begin between 70½ and 85. In traditional IRAs, required minimum distribution rules require all purchasers to elect an income start date prior to age 70½.

Typically, individuals select a cash refund so a beneficiary gets the remaining cash balance or a joint-and-survivor payout. "We believe the purchase pattern that we see in our non-qualified sales indicates that there would be even more interest in the Guaranteed Future Income Annuity if an income start date were permitted beyond the age of 70½ for qualified savings," Grove adds.

Meanwhile, Bennett Kleinberg, senior actuary in MetLife's retirement division, says that some financial advisors put about 10% to 20% of their 50-year-olds' assets to the insurer's "Longevity Income Guarantee" annuity. The average policyholder has a net worth of $500,000 and invests a lump sum of $60,000.

This annuity pays a fixed amount of monthly income later in life at age 85 or earlier, depending on the contract. Because the future income is guaranteed by the insurance company, more money can be invested in stocks or withdrawn earlier from other accounts.

Provided that you can't find a better way to maintain the purchasing power of a retired client's income, combining a managed payout mutual fund with a deferred immediate annuity may fit the bill, Kleinberg adds. For example, Pimco and MetLife teamed up in March 2011 so clients could buy both simultaneously. In the Pimco Real Income Fund, clients get a managed payout mutual fund designed to keep pace with inflation. When funds in the mutual fund are exhausted, the MetLife Longevity Income Guarantee (LIG) annuity kicks in to provide lifetime income.

Some advisors believe there are attractive alternatives to longevity insurance. Reesa Manning, registered investment advisor with Integrated Wealth Management, Palm Desert, Calif., says she would rather invest, for example, $100,000 in a well-managed stock fund today and let it grow for 10 or 15 years. Then she might consider annuitizing the money.

"The biggest issue is the gamble on longevity," she says. "You are gambling on living to an appointed age to collect your benefit. But you are giving up control of your investment."

New York-based financial planner Lewis Altfest says that some people may just benefit from postponing Social Security until age 70. That payout is 1.85 times higher than at age 62.

If you do invest in a deferred-income annuity, it is more cost-effective to the insurance company if a client invests a lump sum, according to research by Shanghai University finance professor Guan Gong, and Boston College finance professor Anthony Webb. The two cite the higher administrative costs of collecting small premiums over many years as well as the greater mortality risk to the insurer.

Meanwhile, James Hunt, a Concord, N.H., actuary, says advisors must price the policies of a number of issuers. "To the extent that insurance companies guaranteed the rate of growth or the settlement option rates, the current level of long-term interest rates is critical to pricing," Hunt says.

Advisors must ensure that their clients understand the longevity insurance contract. "It's great for the right retiree because it solves the problem of never outliving income," Robert Bloink, law professor at the Thomas Jefferson School of Law, San Diego, says. "They must understand the interest rate issue in determining income payments. Many may never collect a dime with a life-only policy."