Government Policy on Distribution Methods for Assets in Individual Accounts for Retirees : Life Income Annuities and Withdrawal Rules

As the baby boom generation begins to retire, more and more workers will have accumulated considerable assets in 401(k) plans and IRAs that have no particular method of payout. This paper examines the two basic, opposing methods that have been proposed as solutions to this problem. The first is the immediate life annuity, while the second is a fixed percentage of 4 percent of the initial account balance, increased each year after the first year of distribution by the rate of inflation. I calculate the lifetime income levels and risks these methods produce using a historical simulation of asset returns, interest rates, and inflation, as well as recent data on the pricing of immediate life annuities. I judge the life annuity an effective instrument to produce lifetime retirement income?generally somewhat better than the commonly used withdrawal rules. Because household needs and preferences are diverse, however, the government should not go beyond mild encouragement and education to promote the life annuity