Q. A recent book I read on retirement planning suggests that once your portfolio has reached the size to fund your retirement you should convert about one-half of it to income ladders to fund your first ten years of retirement. The remainder should be invested in no-load, diversified mutual funds. This way you have a predictable income in addition to having a long-term investment strategy, allowing future stock market gains to offset inflation.

The author suggested funding the Income Ladders by buying Single Premium Annuities rather than bonds, CD's or other conservative investments. What do you think of this overall retirement strategy and what are your thoughts on the Single Premium Annuity Income ladder idea?

---C.L., by e-mail


A. There are two ways to use income ladders. In each you invest in securities that mature in consecutive years.

In a traditional ladder you realize the income each year and spend it. You reinvest the principal of each security when it matures. Over time this method allows you to receive the yield on the longest-term security while your average maturity is about half that. Result: more income with less interest rate risk. Your risk is further reduced by the fact that a portion of the portfolio matures each year. The money you spend, however, is the interest you earn. If you have an emergency need for money, you can sell the security with the shortest maturity.

This advisor is using a less traditional approach, I believe. He is suggesting that you invest in the same ladder but invest enough that each security will provide all your spending power for the year it matures. As a consequence, you will be spending principal as well as earned interest. One major advantage of this strategy is that your income taxes will be lower because much of the money you receive will be principal, not taxable income.

This is a variation on another method used by annuity salespeople. They suggest that you buy a single immediate annuity with a 10-year term to secure the monthly income you need. Then you invest an equal amount in either a tax deferred fixed income annuity or some other growth vehicle. The idea is that you'll spend half your principal (lowering your taxes for the next ten years) but your remaining investment will double in value over the same period, restoring your original nest egg. Ideas like this worked much better when interest rates were higher.

Before you commit to a single premium tax deferred annuity with a particular maturity you should compare the yields to the yields on iSavings Bonds. These bonds currently yield 1 percent over the inflation rate, tax deferred.

The website, www.annuityadvantage.com, for instance, provides information on CD type annuities, fixed annuities, and equity-indexed annuities. While the current tax deferred yield on iSavings Bonds is 3.67 percent, most CD type annuities maturing in less than 5 years offer lower yields. At 5 years the range of CD type annuities runs from a low of 3.35 percent to a high of 4.20 percent (on a $500,000 investment). Returns on 10-year commitments range from a low of 3.50 percent to a high of 4.85 percent (again, on a $500,000 investment). The best return on the size of investment most people are likely to make is 4.50 percent on a $5,000 investment. That's only about 25 basis points (one-fourth of one percentage point) better than the current yield on a 10 year Treasury note.

I believe iSavings Bonds are a better bet because (1) they can be purchased in denominations that range from $50 to $10,000 and (2) the iSavings Bond will do as well as the 10 year CD-like annuity if the inflation rate averages only 3.50 percent over the next ten years. It will do better if inflation runs higher. That's a bet I'll take.