Does it make sense to buy an annuity at 85?

Dear Dr. Don,
A life insurance company I researched has an annuity for retirees who are members of AARP. They list interest rates as high as 8 percent for people older than 85. Is this the way to go in your opinion, and if not, why?
-- Rosalie Rates

Dear Rosalie,
An annuity is a contract between you and your insurance company. You make a lump-sum payment or series of payments. In return, the insurer agrees to make periodic payments to you beginning immediately or at some future date. Annuities typically offer tax-deferred growth of earnings.

The current rate for this annuity program is 8.5 percent when the policy is issued at age 85 for a male applicant, but it's important to read the fine print. The 8.5 percent is the policy's payout rate, not an interest rate. The payout you receive includes both interest and return of principal.

You can't hang your hat on the annuity payout rate in deciding whether to buy the annuity. At age 85, it's your remaining life expectancy that allows the insurance company to provide this high payout. If you invested $100,000 in the annuity product, the company could make payments of $8,500 per year for almost 12 years just with the money you invested. You would be about 97 years old before the insurance company would have to use its funds to make your monthly income payments.

This particular annuity product offers two options to guarantee you or the policy beneficiaries receive at least the money you originally invested in the policy. One is called the cash refund feature; the other, a 20-year guarantee. The cash refund feature pays the beneficiary the difference between what you paid for the annuity and what you received in monthly payments if the sum of the payments is less than what you paid for the annuity. With the 20-year guarantee, either you or your beneficiary is guaranteed to receive the purchase price paid for the annuity over a 20-year period.

You don't say how old you are or how much of your savings you're considering using to invest in an annuity product. You wouldn't want to put all of your savings into an annuity purchase. You also need to be concerned about how inflation over time can reduce the purchasing power of the annuity income. While the annuity policy may offer an inflation rider, that option is typically quite expensive and would significantly reduce the payout rate in the early years of the annuity.

If you're in good health, have a family history of longevity and are worried about guaranteed income for life, an annuity purchase could be the right decision for you. Just keep in mind, it's your money you're spending over the first 12 years of the policy. Work with the agent to discuss the annuity policy and the policy options available to you, but if you can't get comfortable with the decision, don't buy the annuity.

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