An immediate annuity is one where you pay an insurance company a lump sum in return for a stream of income. You can decide if the income stream is guaranteed for a certain number of years (period certain), for a set number of years or your lifetime-whichever is greater; and whether your spouse should receive benefits for his/her lifetime after your death. Since you can receive a set payment for life and can also provide for your spouse after your death, this is seen as a 'perfect' pension replacement.

There are four main reasons that I don't advise this.

First, when you buy an immediate annuity you exchange a lump sum for a series of monthly payments. The lump sum is gone forever. At that point your return is dependent on how long you and/or your spouse live (unless you chose period certain). If you live longer than the life insurance company expects then you get a higher overall return on your investment. If you die before then your return drops considerably.

For instance, Jack and Jill are both 62 and buy a joint life annuity for $250,000. In return, they'll receive $1468 every month for the rest of their lives, regardless of who dies first. After the remaining spouse dies, that's it. Nothing goes to your children.

Assuming their joint life expectancy is 85 years old, the internal rate of return on the annuity is about 4.6%. If they both die at 75 years old their average annual rate of return is negative 1.3%. If at least one of them lives to age 95 then the return on the investment was 6.1%. So your expected return is 4.6%, but your actual return may be more or less.

That illustrates another reason that I don't think people should annuitize - all they are doing the first so many years is getting back THEIR money. Picture putting that same $250,000 under your mattress. Then each month you reach in and pull out $1468. You wouldn't run out of money until 14 years later! That's if you aren't earning interest on it.

If you just put the money in a money market earning 3% you could keep using it until age 80. Interest rates have been going up and some money market accounts are paying 4.75%. Use one of those (or buy a 30-year Treasury bond) and you would cover the payments until one of you reached 86.

There are other benefits of not annuitizing. If your situation changes and you want/need access to more than the $1468 a month, you have access to the remaining principal. If you die before the money runs out the remainder can go to your children. The return you receive isn't based on how long you live but on how it is invested.

Over time, inflation is your greatest risk. Jack and Jill's annuity payment does not increase for inflation each year. If it did, it would be much lower to start with. Doing it yourself allows you to increase your payments over time if needed and/or based on your return.

Obviously, I feel there are better ways to invest $250,000 than putting it in a money market or CD. Over a similar period of time, a well-managed, well-diversified portfolio of stocks, bonds and real estate should average 8% or more. If so, you can meet the same income payment, adjust it for inflation and possibly never even touch your principal. Even if you end up using some principal, the chances are much greater that there will be money leftover for your heirs.

Some would rather let an insurance company bare the risks for them. There are risks to doing it yourself: interest rate risk, undisciplined spending, market risk, etc.. But these are easily mitigated in a well-managed portfolio, and are far outweighed by your ability to earn a higher return while maintaining access and control of your money.