If you're in healthcare or academia and retirement is coming into view, you've probably gotten a form asking whether you want to annuitize your 403(b), and it's not obvious what you're actually agreeing to. This episode breaks down what annuitizing really means, why it's usually permanent, and how it compares to keeping the account invested instead.
Amy Walls walks through why not every 403(b) can be annuitized in the first place, the mechanics and irreversibility of the ones that can, why your own health and life expectancy belong in the math, a hypothetical showing how annuitizing doesn't have to be all-or-nothing when you hold more than one 403(b), and how this decision connects to the pension lump-sum-versus-monthly choice so many healthcare and academic households face in the same window.
You'll learn:
(00:00) Intro
(00:08) Should You Annuitize Your 403(b)?
(01:16) TSA vs. Other 403(b) Plans
(02:04) Do You Need More Guaranteed Income?
(03:38) How 403(b) Annuitization Works
(05:14) The Deal or No Deal Example
(09:19) A Retirement Example
(10:35) Comparing Two 403(b) Accounts
(13:33) How Pension Decisions Fit In
(16:38) Spouses, Longevity, and Survivor Benefits
(17:38) Looking at the Whole Retirement Picture
[Intro Playing]
Jon Gay (00:08):
Welcome back to ThimbleberryU. I'm Jon Jag Gay, along with Amy Walls from Thimbleberry Financial. Hello, Amy.
Amy Walls (00:13):
Hi, Jag.
Jon Gay (00:14):
So, today, we're talking about a question a lot of you in healthcare and academia are sitting with right now around retirement. Should I annuitize my 403(b) when I retire? You've spent decades putting money into that account, maybe into more than one if you worked at more than one hospital or university — now, someone's handed you a form asking you to make one choice that you can't take back.
So, let's get into it, Amy. Should someone annuitize their 403(b) when they retire?
Amy Walls (00:41):
My favorite answer, it depends.
Jon Gay (00:44):
I thought you might say that.
Amy Walls (00:45):
Yep. Annuitizing means trading your account balance for a guaranteed paycheck for the rest of your life or likely the rest of your life, and giving up control of that money permanently. But that trade and the premise of your question is actually only on the table for a 403(b) if that 403(b) is built as an annuity contract. This is an important piece because just because you have a 403(b) doesn't mean it can be annuitized.
Jon Gay (01:16):
Not all of them do, okay.
Amy Walls (01:17):
If it is a TSA, it can be. All TSAs are 403(b)s, but not all 403(b)s are TSAs.
Jon Gay (01:24):
What is a TSA?
Amy Walls (01:26):
A tax sheltered annuity.
Jon Gay (01:27):
Got it.
Amy Walls (01:28):
So, some 403(b)s hold only mutual funds through a custodial account, and those don't come with an annuitization option built in. So, the real answer and why I had to say it depends is because before anything else, we need to know which kind of 403(b) you have.
Jon Gay (01:45):
Fair.
Amy Walls (01:46):
And then from there, it all depends on your situation on what makes sense.
Jon Gay (01:50):
And if you're not sure, your plans record keeper or benefits office can tell you which one you have.
Amy Walls (01:54):
Absolutely. Jag, it's almost like you should become an advisor.
[Laughter]
Jon Gay (01:58):
I can't manage my own money, that's what my wife does.
Amy Walls (02:04):
So, if annuitizing is on the table, the real question isn't should you? It's: Do you need this account to be your guaranteed income floor or do you already have one some other way? And where you may already have another way is social security, a pension, or other guaranteed income that you already know you're going to have that covers basic expenses.
If that's the case, you probably don't need to annuitize this account also. And for most of the healthcare and academia, healthcare and academia households that I work with, the answer tends to lean towards finding balance on covering some of that floor and having growth in the future.
The other thing is that how long you expect to live, longevity within your family, that matters too. The longer your life expectancy, the better the annuity tends to work out. But the shorter it is, the more that guarantee costs you relative to keeping the money invested.
The other thing that was alluded to, or I said it, but I think it's important to call out before we get too far into this conversation, is that for our listeners, thinking through this decision should be approached and treated with the idea that it is permanent. Because once you annuitize, once you fill out that paperwork and send it in, you don't get to change your mind.
Jon Gay (03:34):
No take backsies, no mulligans, got it.
Amy Walls (03:37):
Yep, exactly.
Jon Gay (03:38):
Let's put a finer point on the part about some 403(b)s can be annuitized and some can't be. Walk me through why, and what actually happens for the ones that are eligible to do this.
Amy Walls (03:48):
So, as I mentioned, a 403(b) can be built one of two ways, on account holding mutual funds or an annuity contract issued by an insurance company. Only the annuity contract version has this annuitization feature built in, and that's because that's what an annuity is designed to do.
So, with an annuity, Jag, let's pretend that you are the insurance company and I am the person holding this 403(b) that can be annuitized. What I'm basically going to do is say, "Hey, Jag Insurance Company, I'm holding this account with you. It has these features where you will give me a certain amount of money regularly for the rest of my life for some other determined amount of time or to my heirs. But what I have to do is I'm going to trade it to you." So, Jag, if I take this pool of money and give it to you as the insurance company, how much money are you going to give me?
And once we make that deal, it's done. And so, that's your role as the insurance company in this. None of that matters if the annuity isn't there. It just operates; the account operates like any other retirement plan essentially.
Jon Gay (05:14):
I feel like this is a little bit like Deal or No Deal (laughter), because it's kind of like if you're the insurance company, you've got all your people doing your backend calculations, you've probably got tables for life expectancy and things like that.
And you're going to say as the insurance company, or I guess in this example I'm going to say as the insurance company, my numbers say that Amy is going to live to age X. So, if she gives me the lump sum, I am going to offer her this much per year until date X, is kind of where I'm going with this. Do I have that right?
Amy Walls (05:48):
Yeah, I don't know about the Deal or No Deal piece. I see where you're coming from there.
Jon Gay (05:54):
Yeah, there's no negotiation here. They give her the offer and that's it.
Amy Walls (05:57):
Exactly.
Jon Gay (05:58):
And then you as the retiree, you're going to say, okay, well, if I only live another three years, probably not going to be worth it. I'd rather take that money that's in there. But if you find the fountain of youth and you live to 150, then you're going to get that annuity every single year and you're probably going to come out ahead.
Amy Walls (06:19):
Absolutely. Yeah, that's a great way to say it (laughs). And I really have nothing to say after that because you've just explained it so well.
Jon Gay (06:28):
Well, you are the teacher and I am the pupil. I'm the ex-radio DJ who used to have to get a whole though out in 10 seconds before Katy Perry started singing. So, I'm pretty good at distilling things down.
[Laughs]
Amy Walls (06:41):
Well, your visual, I think hit the nail on the head.
Jon Gay (06:45):
That's just because I look like Howie Mandel. So, what does the alternative look like, Amy, if you don't annuitize? Whether that means rolling it into an IRA or just leaving it invested where it is?
Amy Walls (06:57):
Yeah, Jag, it's keeping the money yours. It's keeping it flexible. You still control how it's invested and how you take it out and when you take it out. You also keep the growth potential. Money that stays invested has a chance to keep working for you instead of it being converted into a fixed number on day one with the annuity.
The trade-off, which is I really think what your question is getting at, is you are carrying that investment risk yourself. Markets go up and down, nobody hands you a guaranteed paycheck when things go sideways.
There's also a timing difference that's worth knowing about. So, taking the whole balance out as cash in one year creates a large tax bill all at once. So, most of our listeners probably aren't thinking about doing that, but it is something to think about versus, oh, I'm getting this smaller amount stretched out over time, it probably isn't going to impact my taxes as much.
Additionally, if you are moving that money, maybe you've got multiple 403(b)s that you're not annuitizing, either because you don't want to or because you can't, and you're looking to consolidate in retirement, a direct rollover to an IRA also avoids that tax bill.
So, it's a specific way of doing the rollover. The money moves from those custodians into the new account without triggering tax, and then you control the timing of your withdrawals and the tax bill from there.
So, what we're getting at is control. And I think that control and flexibility matters a lot more for some people than the guarantee. That can be because of who they are and what's important to them. It could also be because of their financial situation.
But on the flip side, flexibility isn't free. It asks you to make ongoing decisions instead of a single decision. And it asks you to be comfortable with your balance moving with the market. Neither path is wrong. It's a question of which discomfort you'd rather carry, market risk or loss of control, and how that couples with every other financial piece you've got going on.
Jon Gay (09:19):
This really seems like one of those decisions that's a little abstract until you can see numbers. So, let's go through a hypothetical example here or to keep with the analogy here, Amy. Open the case.
Amy Walls (09:33):
(Chuckles) So, Jag, we’ll make this interactive. So, Dr. Chen (not a real person. I'm sure there is Dr. Chen, but not a real client that I'm talking about)-
Jon Gay (09:50):
For example purposes only.
Amy Walls (09:51):
(Chuckles) Yes — spent 12 years on faculty at one university medical center, let's go with that. Then she switched and went to a second healthcare system for another eight years before retiring. Both left her with a 403(b) and both happened to be the annuity contract kind. So, annuitizing is genuinely on the table for either one of these accounts.
The first account, her income was lower. Let's say that's worth about $180,000. During the second career, she was department chair. Her income was higher, she saved more. That's closer to $650,000.
Jon Gay (10:33):
So, 180 and 650, okay.
Amy Walls (10:35):
Yep. Now, Jag, as our insurance company over here, when you open the case, give me the dollar amount that you're willing to pay on a monthly basis for the rest of her life on the $180,000.
Jon Gay (10:55):
You want me to give you a number? I don't know how I'd even come up with that number.
Amy Walls (10:59):
I wasn't expecting you to give a real number. Let's just say that that is going to be $600 a month because of her age. And on the $650,000, it's going to be … let's say that's $4,000 a month. Well, she looks at those, she works with her financial advisor to say, "Well, with your expenses, how much do you need to cover?" Social Security is going to cover most of her expenses, most of her basic expenses.
So, she looks at that and says, "Well, I could use a little boost on that so that in a down market, I still feel like I can travel and do discretionary things that I've been looking forward to." So, adding $4,000 by exchanging with the insurance company, the $650,000 really doesn't make sense because I don't need that much extra floor. But the smaller number, that would actually really cover my floor quite nicely.
So, in this case, Dr. Chen decides to annuitize the $180,000 account, but she keeps the $650,000 account right where it is. Still invested, nothing's changed, hers to direct. She can take a lump sum if she wants to for something fun that comes up. So, that split, really what it's doing is it's giving her a guaranteed income floor and the flexibility and growth potential from the larger account.
She gets the best of both worlds, and she did it in a way that helped her financial situation. She also got to keep a lever available for taxes. She has the flexibility that if she needs cash in a given year, she can pull from the $650,000 account that will create a tax bill. But she knows predictably what her taxes are going to be with social security and the account she annuitized. Or the annuity payment, I should say, because it's no longer an account.
So, I think what matters here, hopefully for our listeners, is that annuitizing doesn't have to be all or nothing when you're holding more than one account. And that's the piece a lot of people miss. We go into decisions thinking, I have to do the same thing each time. But it's all about what is your situation and what is going to make you more comfortable?
Jon Gay (13:33):
So, Amy, for a lot of listeners, this isn't happening in isolation. There are other accounts where they're staring down pension lump sum versus monthly decision or monthly payout at the same time. How does what we're talking about today connect with all that?
Amy Walls (13:47):
So, one thing is a pension lump sum, this does get confusing, Jag, because if you've got a pension, it's intended to be paid out on a monthly basis. Some of those do give you the option to now take a lump sum. So, it's basically the opposite of what we've been talking about with this annuitizing of 403(b)s.
It's the approach that's different, but the decision-making is essentially the same. So, we can throw all of these accounts that could be annuitized if they have a lump sum option into one bucket to decide per account what we want to do. And that goes back to the example we just talked about with Dr. Chin.
We look at each one in the financial situation and say, well, how does it help from a guaranteed income standpoint, from expenses, comfort, all of those things? And which accounts does it make sense to annuitize, if any? And if there is a pension that can't be a lump sum, well, then great.
That's decided for us in terms of it must pay out. Let's just pick which is the best payout option and why. What is that doing for us? In that case, it simplifies. You're going to have to take the money on a monthly basis somehow.
If you're married, Jag, though, there's another layer. Most pension and annuity elections offer a survivor benefit choice. So, I've been talking about this being kind of your decision, the money's coming to you monthly. I did allude to it earlier. Maybe it's there for heirs. But if you're married, more than likely, you're planning together. So, is this money yours or is this your and your wife's?
Most people that we work with are going to say, "This is our money. It's our retirement. We're retiring together." And so, part of that choice that has to be made in either case is how do you protect not just the person whose name has been on the statement, but how do you also make this money work for their spouse?
There's different options, and it all depends on situation. Perhaps the spouse isn't the healthiest. That could lean one way in that decision-making. Maybe the spouse is uber healthy with longevity on their side, and the person who's accounted has a number of comorbidities.
Jon Gay (16:38):
Or I'm just thinking in my case, I'm a guy, and statistically, women live longer. So, I'm just thinking about it from that perspective too (chuckles).
Amy Walls (16:44):
I mean, yeah, that's also something to consider. So, all of that goes into the decision-making. And I won't say that it's simple, and I think it's a whole episode on its own (laughs).
Jon Gay (16:58):
Sure.
Amy Walls (16:59):
But that's the art and science of financial planning.
Jon Gay (17:04):
Yeah, the hard data versus the behavioral finance and all that goes into it.
Amy Walls (17:08):
So, the thing about this is whether it's a pension with a lump sum, whether it's a pension choice because there is no lump sum, whether it is a 403(b) that has an annuity option, or if you are annuitizing, if you are turning it into the monthly income stream, turning on that income stream, the election needs to be thought of as irreversible. And that's going to be the same across the board.
Jon Gay (17:38):
Really, you want to look at all your guaranteed income pieces side by side. It's a great way to think about treating the pension decision and the 403(b) decision as one bigger question instead of two separate things.
Annuitizing that 403(b) means giving up control of that account for good in exchange for guaranteed check. Whether that trade makes sense for you, like we just said, it depends on how much guaranteed income you have, how you feel about carrying the market risk in your planning for the future.
So, if you are staring down the barrel of this decision, we should say, or getting ready to “open the case” (I'll bring it full circle), you want to look at the whole picture before you sign anything, before you get the deal from the banker up in the shadows on the phone … I'm going way too far with this analogy…
How do our listeners reach you and your team at Thimbleberry Financial, Amy?
Amy Walls (18:26):
Yeah, let's cut that off. No, 503-610-6510, or they can find us online at thimbleberryfinancial.com.
Jon Gay (18:35):
You know I was Howie Mandel for Halloween once.
Amy Walls (18:38):
I love that. That's a whole episode on its own too.
Jon Gay (18:42):
Howie Mandel, Homer Simpson and Charlie Brown, work with what God gave you. Take care, and we'll talk again soon.
Amy Walls (18:48):
Sounds good. Bye.
[Outro Playing]
Jon Gay (18:49):
Securities offered through registered representatives of Cambridge Investment Research, Inc., a broker-dealer, member of FINRA/SIPC. Advisory services through Cambridge Investment Research Advisors, Inc., a registered investment advisor. Cambridge and Thimbleberry Financial are not affiliated.
Discussions in this show should not be construed as specific recommendations or investment advice. Always consult with your investment professional before making important investment decisions.
Securities offered through registered representatives of Cambridge Investment Research, Inc., a broker-dealer, member of FINRA/SIPC. Advisory services through Cambridge Investment Research Advisors, Inc., a registered investment advisor. Cambridge and Thimbleberry Financial are not affiliated.