In Your 50s? Create Your Own Pension

BERKELEY HEIGHTS, N.J. (TheStreet) -- Fewer and fewer retirees will begin their retirement years with a defined benefit pension plan or, as it is more commonly known, a traditional pension plan. The U.S. Department of Labor's Bureau of Labor Statistics National Compensation Survey showed as of March 2009 that just 20% of private-sector workers were covered by one -- only one in five.

The same survey indicated 43% of private-sector workers participated in a defined contribution plan. The defined contribution plan most people are familiar with is the 401(k).

When you retire, what you need is a stream -- your own pension income stream.

What's the difference? With a defined benefit plan, a monthly pension payment is paid to the participant as long as they live. It is essentially a lifetime annuity with the added benefit that the recipient is not subject to investment market risk. With a defined contribution plan, the participant accumulates a sum of money open to investment market risk during the accumulation and distribution phases.

Also, once an person retires with a defined contribution plan, it is their decision how much money to take out each year, with a minimum withdrawal amount mandated by the IRS once they hit 70.5 years old. The traditional pension plan provides some longevity insurance, since the participant can't outlive the payment stream; with a defined contribution plan a person can exhaust the money before they die and they are subject to market swings.

Unhelpfully, the shift from defined benefit pensions to 401(k)s has occurred during a time longevity has been increasing due to medical advances. At a time when more people need a traditional pension plan, very few have them.

So what can a new retiree do to create their own pension income stream?

One option for retirees without a traditional pension plan is to buy an immediate fixed annuity -- handing over the investment market risk and longevity risk to an insurance company. With an immediate fixed annuity, a lump sum is paid to the insurance company in return for a stream of monthly payments. The payments can be received over one's lifetime or various other options. For a nonqualified immediate annuity, only a portion of the monthly payment is taxable income, as a portion of the payment is considered return of principal.