How to get guaranteed income if you don't have a pension

Worried about outliving your money in retirement?

The days of receiving a company pension are gone for most, with just 20 percent of private-sector workers still covered by these defined benefit plans.

That's why investing in an annuity can be an appealing strategy, since these products help provide a steady stream of income to supplement Social Security and your own retirement savings.

"The biggest reason people are buying these products is for lifetime income to replace a pension or replace the fact that they never had one in the first place," said Judson Forner, vice president of investment marketing for ValMark Securities. "A majority of sales is being driven around the concept of guaranteed lifetime income."

Unlike those pension checks, an annuity is funded with your own money and is a contract between you and an insurance company. It works something like this: You hand over a lump sum, and the insurer doles out payments immediately — this is known as an immediate annuity. If it is distributed at some time in the future, it is called a deferred annuity.

These products get complex very quickly, so deciding whether to include one in your overall retirement plan is a tricky proposition and comes with its own set of drawbacks.

First, decide if your monthly Social Security check and any retirement payments, such as required distributions from your 401(k) plan or individual retirement accounts (IRAs), will be enough to cover your bills. If not, funding an annuity may be the right move.

Annuities also offer a sense of comfort, knowing that you're getting a set payment every month for life. If you need this sense of security to help you make that transition to retirement, then you may want to consider the annuity option.

On the most basic level, annuities come in three forms: fixed, indexed or variable.

The simplest of all is called a fixed immediate annuity, where you hand over a check to the insurance company, who will divide it up and provide you with income right away.

"It's exactly like a pension: You get a check in the mailbox, but you don't have any control," said Forner, a certified financial planner responsible for all annuity product lines at his firm. "They maintain and manage the assets; all you're doing is collecting."

In addition to when you take the money, annuities also have dramatically different levels of investment risk, depending on the type you choose. Remember, an annuity is funded by a lump sum of your money, and what the insurance company does with your money will have an impact on the payout you see each month.

As with most investments, the more risk you take, the greater potential reward. According to Forner, fixed annuities — followed by indexed annuities — are considered the safest because there's a small likelihood you'll lose money due to the way your money is held by the insurance company.

The trade-off is that you'll earn very little interest on your money — in some cases, just 1 percent a year — in return for a guaranteed minimum payment for life.

Forner warns that lack of flexibility and liquidity are the two main reasons you might think twice before tying up a large sum of money in an annuity. Once you mail that check, you're pretty much stuck with that investment, unless you want to pay a surrender charge to get your money back. Also, if you withdraw money from an annuity before you are age 59½, you may have to pay a 10 percent tax penalty to the Internal Revenue Service, along with any taxes you owe on the income.

That's why you need to choose carefully and find a product that matches your long-term objectives.

"If you're looking for a long-term solution that provides guaranteed income for life, an annuity can be very valuable," said Forner. "But you're going to have to make some type of a time commitment."

Also, you need to do your homework on the companies providing the annuities in order to protect your money, which is not insured by the FDIC and can be lost if the insurer goes bankrupt. "You need to align yourself with a carrier that will fulfill their promise to you," he added. "It's imperative to do your due diligence on the financial strength of the carrier you're dealing with."