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This article describes how differences in health status at retirement can influence the decision to purchase a life annuity. We extend previous research on annuitization decisions by incorporating the effect of health differentials via differences in survival throughout the latter portion of life. Next, we consider how precautionary savings motivated by uncertain out-of-pocket medical expenses influence annuitization decisions. Our results show that annuities become less attractive to people facing uncertain medical expenses. While full annuitization would still be optimal if annuity markets were truly complete and both life- and health-contingent, lacking this, annuity equivalent wealth values are much lower for those in poor health, as compared to persons in good health.
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©2004 Pension Research Council of the Wharton School of the University of Pennsylvania. All Rights Reserved.
This research was conduct with support from the Social Security Administration via the Michigan Retirement Research Center at the University of Michigan and the Pension Research Council at the Wharton School of the University of Pennsylvania. Additional support was provided to the first author by Grant AG10168 from the National Institute on Aging, Samuel H. Preston, Principal Investigator. Useful comments were provided by Irma Elo, Silvia Matos, Alex Muermann, Samuel Preston, Sara Rix, and members of the Wharton IRM Study Group. We are especially grateful to Jeffrey Brown for sharing his optimization code and for his many useful suggestions. Any errors are the authors’ responsibility.
Date Posted: 30 August 2019