Securing Income with Annuities

Submitted by Sterling Raskie on Wednesday, March 4, 2015 - 12:00pm
Printer-friendly versionPrinter-friendly version

The ultimate goal of retirement planning is to have a sufficient income for as long as you live. One possible strategy to help you with that goal is to invest a part of your 401(k) in a longevity annuity.

Here, you pay a premium to an insurance company in exchange for a lifetime income that begins at a certain age. In July 2014, the Internal Revenue Service issued final regulations that include qualified longevity annuity contract (QLAC) in employer-sponsored plans as well as individual retirement accounts.

To purchase a QLAC from an IRA, you can use up to 25% of all IRA account balances to pay for the premium. In an employer-sponsored plan, such as 401(k)s, 403(b)s and 457(b)s, the amount cannot exceed 25% of the account balance per plan. The dollar limit of funding QLACs is $125,000 across all of your accounts (excluding Roth IRA and Roth conversions, which do not allow QLACs.)

Under the required minimum distribution (RMD) rules, you must begin withdrawing a certain percentage from a traditional 401(k) or IRA at 70½. The new regulations remove the money invested in QLACs from the RMD calculations. In other words, if you have an IRA of $625,000, and you use $125,000 to fund a QLAC, you calculate the RMD for the account based on the remaining $500,000 balance, not $625,000. You must start collecting the annuity after 85.

The longevity annuity can have a “return of premium” feature both before and after the annuitant’s start date. If you die before receiving payouts, your beneficiary will receive a death benefit equal to the premium. If you die after you start collecting annuities, the contract returns an amount that is the difference between premiums paid and benefits received.

The IRS only allows you to fund fixed rate annuity contracts with your accounts. Variable or equity-indexed annuity contracts, which tie returns to a market index, are not qualified. The IRS’ reasoning behind this is that QLACs should provide a fixed and predictable income stream. Plus, a relatively limited set of options makes it easier for investors to compare plans between providers. QLACs also cannot have a commutation or surrender value benefit, meaning you cannot change your policy or cancel it to collect a lump sum at once.

As defined benefit pensions become increasingly rare, QLACs may offer retirees some guarantees that they would not otherwise get in the retirement plans. You can get more information on QLACs here to find out whether a QLAC is right for you.

Follow AdviceIQ on Twitter at @adviceiq.

Sterling Raskie, MSFS, MBA, CFP, is an independent, fee-only financial planner at Blankenship Financial Planning in New Berlin, Ill. He is an adjunct professor teaching courses in math, finance, insurance and investments. His blog is Getting Your Financial Ducks in a Row, where he writes regularly about investments, retirement savings and financial planning.

AdviceIQ delivers quality personal finance articles by both financial advisors and AdviceIQ editors. It ranks advisors in your area by specialty, including small businesses, doctors and clients of modest means, for example. Those with the biggest number of clients in a given specialty rank the highest. AdviceIQ also vets ranked advisors so only those with pristine regulatory histories can participate. AdviceIQ was launched Jan. 9, 2012, by veteran Wall Street executives, editors and technologists. Right now, investors may see many advisor rankings, although in some areas only a few are ranked. Check back often as thousands of advisors are undergoing AdviceIQ screening. New advisors appear in rankings daily.

 

 

Previous: How Food and Oil Boost Jobs
Next: