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Articles, wit and wisdom about retirement planning, tax management and living a long life.


How to Minimize RMD

Many people are surprised to learn that they have to take Required Minimum Distributions (“RMDs”) when they reach the age of 72.  The RMD rule applies to IRS sanctioned retirement savings plans (“Plan” or “Plans”).  These Plans have names like an IRA, a 401(k), 403(b), 457(b) and other acronyms.  Contributions to these traditional retirement savings Plans are made with “pre-tax” dollars – an individual taxpayer’s Plan contributions are reductions in that person’s gross taxable income.  Also, an employer’s Plan contributions are not taxable to the employee.  Even better, assets in each Plan can grow free of income tax.  Of course, the IRS eventually wants tax revenue. So, all distributions from these traditional retirement Plans are taxable to the Plan beneficiary/recipient. 

Some retirees can maintain their lifestyles without withdrawals from their IRA or similar Plan.  Given the wealth-creating power of compounding returns without tax, these retirees often want to allow their Plan assets to grow tax-free as long as possible - without taxed distributions.  Unfortunately, the tax rules specify an annual Required Minimum Distribution (“RMD”) for all “Traditional” Plans.  The RMD rule applies once a person reaches age 72 and each year after that.   An RMD distribution shortfall is subject to a 50% penalty as well as the regular income tax.

Careful tax planning can assure that there are annual withdrawals from a Plan at least equal to the RMD.  But can a taxpayer reduce or eliminate the RMD exposure to maximize the benefit of tax-free compounding?  The answer is yes, but it takes planning and the right facts.  Below are some approaches.

ROTH 401(K) PLAN

Plans with a “Roth” in their title have tax treatments that differ from Traditional Plans.  Contributions are treated as taxable income or not deductible, but distributions are tax exempt.  Many if not most employers (offering 401(k) plans) give the employee the option of having a Roth or a Traditional 401(k) Plan.  As a result, today there are many billions of dollars in assets held in Roth 401(k) plans.   The RMD rules are the same for both Traditional and Roth 401(k) Plans. 

Here, there is a simple solution to the RMD problem.  A Roth IRA has no RMD requirement ( the Traditional IRA is subject to RMD).  A Roth 401(k) plan can be rolled over into a Roth IRA without creating taxable income.  Absent some extraneous factor; all Roth plans should be transferred to a Roth IRA before the RMD rules apply.  Of course, the rollover will have to occur when an employee has the authority to transfer the account, usually after leaving employment with the plan sponsor.

TRADITIONAL PLAN ROLLOVER

Can a person roll over to a Roth IRA if he or she holds assets in a Traditional Plan (e.g., 401(k) or IRA)?  The short answer is “yes,” but there are two hurdles to a rollover from Traditional to Roth:

  • The rollover amount is taxed as ordinary income in the rollover year.
  • No distributions from the Roth IRA can occur for five years after the rollover.

The rollover amount can be less than the total Traditional Plan asset balance.  Any distributions needed for the five years after the rollover should be held back in the Traditional Plan. After the fifth year, the Roth IRA is free to make some or no distributions to its beneficiary.

An individual’s tax situation dictates whether or not this rollover strategy makes sense.  For example, assume a person will be in a high tax rate at the rollover date and expects a low or no tax in a future distribution year.  A rollover in this example would be inappropriate.   The ideal time to do a rollover is in a year when an individual’s taxable income is unusually low.  Such a person might be between jobs, early retirement before benefits are paid, report deductible passive losses from real estate investments, etc.   Also, it is possible to plan multiple rollovers to multiple Roth IRAs over the years.  The rule is to do the rollover in a tax year when rates are low, or there are sufficient losses. Even more important – run the numbers and do a sensitivity analysis on both assumed tax rates and investment rates of return.

Here is an important point.  If the rollover into a Roth IRA occurs when the RMD rules apply, an RMD distribution will still be required in the rollover year.

There is no age restriction on a Plan roll as far as income taxes.  Still, the Plan’s language must allow the event.   For more on how to manage lifetime income using a Roth IRA, see our blog article on the topic.  

PLAN TERMINATION

A simple way to avoid RMD is to terminate the Plan before the beneficiary reaches age 72.  Generally, a penalty is triggered by a termination or Plan distribution before age 59½.  After age 59½, the beneficiary of a Traditional Plan is free to withdraw any amount so long as it equals or is greater than the RMD for that year. Withdrawal of all Plan assets will terminate the Plan.  Please recall that Traditional Plan withdrawals are taxed as ordinary income.

Just like with a rollover to a Roth IRA, distributions should be planned to occur in the year(s) when the Plan beneficiary has low or no other taxable income. So doing, the tax cost of the distribution(s) will be minimized.    Once received, the funds can be reinvested by the Plan beneficiary in his capacity as an individual investor.  The tax-advantaged choices are many – non-dividend paying stocks, deferred annuities (variable or general account), real estate, oil & gas, etc. Tax deferral depends upon the nature of the assets selected for re-investment.

A QLAC

If a person owns a Traditional Plan, the IRS has created a new type of qualified tax annuity – the Qualified Longevity Annuity Contract (“QLAC”).  The IRS authorized this new class of annuity contract in 2014 to help taxpayers of more modest means to assure themselves that their Plans would never run out of money.  Under the IRS rules, a QLAC must have the following attributes: 

  • The annuity must be deferred and not be an immediate annuity;
  • Once payments begin, the annuity is for the remainder of the beneficiary’s life;
  • The annuity must start no later than the owner’s 85th birthday;
  • The policy must be a “general account” insurance product – not variable;
  • The owner and a spouse may be joint beneficiaries;  and
  • The maximum QLAC premium is the lesser of $130,000 or 25% of Plan assets.  (The $ 130,000-lifetime limitation was increased to $130,000 from $125,000 on January 1, 2018, and will rise from time to time after that.)  
  • There are two significant benefits of buying a QLAC: 
  • Taxable income does not arise from a Plan withdrawal if used to pay a qualified QLAC premium;
  • The Plan assets are reduced by the premium withdrawal for computing RMD.

 It is important to recognize that a QLAC is an annuity, a form of insurance policy – not an investment contract.  A QLAC guarantees a fixed income for the life of the policy owner (and spouse, if elected).  There is also an available election that provides that the sum of all payouts must be equal to the premium paid.  Assume a QLAC was purchased for $125,000 with the annuity to begin at age eighty-five.  If the QLAC owner dies at age eighty, then his estate will receive $125,000, a refund of the premium paid.  (Without the return of premium election, there would not be benefits payable to the beneficiary’s estate ).  As a result,  a conservative analysis assumes that the QLAC return is 0% but never negative. On the other hand, the RMDs are reduced because the Plan assets are reduced by the distribution to pay the QLAC premium.  As a result, the beneficiary has more pre-tax dollars at work.  

The benefit of a Plan without a QLAC withdrawal is that there are more Plan assets which can grow tax-free inside the Plan – but higher RMDs.  Of course, without a QLAC, all the Plan assets are subject to investment risk.

Increased Plan distributions have distinct tax disadvantages.  Funds moved outside the Plan are taxed 100% as ordinary income - thereby reducing available re-investment assets.  Further, the remainder assets typically generate taxable income, further reducing asset growth. 

Once again, there is no one best answer concerning the above tradeoffs.   For each person, the right answer depends on the assumed tax rates, when the QLAC annuity begins, and the expected rates of return inside the Plan - as well as the rate of return on the invested distributions.  The QLAC can be an “investment” when the return of premium election is made.  As part of a portfolio of invested assets, the QLAC could be categorized as low or no risk while the assets in the Plan might be at incrementally higher risk than without the QLAC.  Finally, for many investors, there is a very important ‘sleep at night’ factor of knowing that a well-rated insurance carrier guarantees a certain part of future retirement income. 

CHARITABLE CONTRIBUTIONS

Once the RMD age is reached, a Traditional IRA can make a qualified charitable contribution up to $100,000. (To take advantage of this option, other Traditional Plans need to transfer assets to the IRA.) That contribution is treated as an RMD distribution for purposes of the RMD test but is not treated as taxable income to the Plan beneficiary.   For all intents and purposes, the IRS is assuming that the distribution’s imputed income and charitable deduction offset and neither need be reported.

Of course, instead of having the IRA make the contribution, a beneficiary could take a $100,000 distribution and turn around and make a $100,000 charitable gift.  For high-income individuals, there are disadvantages to this alternative approach.  First, the individual’s Adjusted Gross Income (“AGI”) will be increased.  A variety of tax rates kick in at higher levels of AGI.  Also, some personal deductions are limited as AGI becomes higher.   For example, itemized deductions (i.e., contributions to charities) are reduced when AGI exceeds certain thresholds (e.g., $155,650 if married filing separately).  For most high-income taxpayers, the net effect will be more taxes to pay under this second approach than if the beneficiary had simply instructed the IRA to make the charitable contribution.

A beneficiary’s charitable intent is the starting point of this RMD minimization strategy.  Having the IRA fulfill that intent is just a better way. Note that the $100,000 is a maximum only.  For Plans with less than $2.5 million in assets, typically, the RMD amounts will be less than the $100,000.   While a Plan could limit its charitable transfer to RMD, the charitable gift by the IRA could be less or more than the RMD – just not more than $100,000 in a given year.

An interesting approach might be to use a QLAC to reduce the Plan assets and after that, dedicate the reduced RMD to charitable gifting.

ANNUITIES

Buying an annuity such as an Immediate or Deferred annuity inside a Traditional Plan may achieve planning objectives, but these purchases are not a means of reducing RMD.  (A QLAC is not a traditional annuity and should not be confused with the annuity contracts described below for this discussion.) 

An Immediate annuity (annuity payments begin within 12 months of the purchase date) distribution is often treated as a deemed RMD.  The annuity distribution is 100% taxable to the beneficiary.  The Immediate annuity is great for the person who seeks a risk-free return and lifetime income. 

A Deferred annuity (annuity payments begin after 12 months of the purchase date) has another issue.  Unlike an Immediate annuity, the Deferred annuity has a cash value designated by the annuity contract or imputed by the IRS.  As a result, RMD will be computed each year based on that cash value.  Sufficient liquid assets need to be held in the Plan but outside the Deferred Annuity to assure there are available distributions to cover the computed RMD.  Once the annuity begins its payments, the payouts are typically deemed equal to the RMD.  This approach offers little or no opportunity to defer RMD.

Traditional annuities are not vehicles to accumulate assets tax-free inside a Plan.  Any tax deferral inside the annuity becomes irrelevant when the asset is held inside a Traditional or a Roth Plan.  Avoiding RMD is a strategy to allow assets to grow tax-free typically for a future beneficiary.  Annuities are about providing secure lifetime cash flows to the Plan beneficiary.  

 SUMMARY

Avoiding or minimizing RMD is for future or current retirees who do not or will not need their savings inside a Traditional Plan. A Plan that buys an Immediate or Deferred Annuities will not help reduce the RMD and will likely reduce or eliminate residual assets at the end of the beneficiary’s life.

Good Planning tools include distributing Plan assets to buy a QLAC, moving some or all of the Plan assets into a Roth IRA, distributing Plan property at an opportune time and fulfilling charitable gifting via a traditional IRA. The QLAC has no tax toll charge on the transfer from a Plan, but it is limited in the percentage of assets that can be used to pay a QLAC premium.  Transfers from a Tradition Plan to a Roth IRA (or simply outside the Plan) are 100% taxed, but that tax can be managed by doing one or more transfers in low tax rate year(s).  Finally, making charitable gifts from an IRA reduces RMD and is tax efficient for high-income taxpayers.

There is not a perfect solution for all.  Instead, minimizing RMD requires thoughtful planning with a keen eye focused on the beneficiary’s objectives and not just tax minimization.

Want to learn more? Check out our videos page to see additional QLACguru videos.  See our calculators page to develop an anonymous RMD calculation and estimated QLAC quote. Answer specific questions by going to our Knowledgebase page.  Visit our blogs page for in-depth articles on a variety of topics including how QLACs help with sequence Sequence Risk, how QLACs are similar to and different from Social Securitybest practices in buying a QLAC as well as many other topics. Free Consultation.  If you would like us to develop a free RMD analysis and illustration of how a QLAC might work for you, please click here.



How to Never Run Out of Money In Retirement

ABSTRACT:

The “Failsafe” Strategy is a way to manage a traditional (not Roth) IRA account so that the IRA assets provide income to a retiree for life, no matter how long he or she lives.  The Failsafe Strategy assures the person cannot outlive their IRA savings.

This retirement planning approach employs a new type of life annuity called a Qualified Longevity Annuity Contract or “QLAC.”  If an annuity meets the IRS definition of a QLAC, IRA distributions taken to pay the QLAC premium are not taxable to the recipient.  The QLAC annuity start date can be deferred to age 85 of the beneficiary.

To implement the Failsafe Strategy, an IRA owner purchases a QLAC, then divides retirement into two planning phases:

  • Phase I - From the start of retirement to the date before when the QLAC annuity payments begin (e.g., from 70th birthdate up to 85th birthday).  During this period, the IRA owner withdraws funds from their IRA in approximately equal monthly installments until the IRA balance is nearly dissipated.
  • Phase II - Beginning at the QLAC annuity start date to date of death (e.g., 85th birthday until the age at passing).  During this Phase, the QLAC takes over providing retiree income. The IRA owner receives monthly QLAC annuity payments until they die.

For many IRA owners, the maximum allowable QLAC premium (the lesser of 25% of IRA assets or $135,000) can buy a QLAC lifetime annuity with a benefit greater than or equal to the Phase I IRA payments. Thus, with proper planning, benefits received during Retirement Phases I and II can, when combined, create a level, secure, lifetime stream of income, one that the benefit recipient cannot outlive.  To see how the strategy outlined above might work for you, try the QLACGuru FailsafeSM Maximize Income Calculator Page.  If you prefer a pencil and paper approach, click to see Maximize Income Infographic on how to estimate  FailsafeSM income.

ARTICLE TEXT UDATED 11/4/2020:

This article describes a strategy that assures that a retiree will never run out of money during his or her retirement, no matter how long retirement lasts. The strategy will be outlined by following a prospective retiree, Ian.  

Ian’s retirement savings are in an Individual Retirement Account (“IRA”)[1]. Ian’s IRA includes funds that his employer contributed when it converted its pension plan from a defined benefit to a defined contribution plan.  Of course, Ian will collect social security benefits, and they are the foundation of his retirement income.  Unfortunately, Ian’s annual social security payments of $30,000 fall short of meeting his estimated cost of living of $50,000 to $60,000 per annum. 

Ian has been a hard worker all his life but never could save a large sum of money. He attempted to be an investor by buying and selling homes in addition to his day job. That effort turned into a major loss in 2008. His wife is deceased, and he has two grown children – one in the Armed Forces and the other a teacher.  Ian also has one grandchild. He owns his home, which is subject to a modest mortgage. He is 69 and plans to retire next year.  Ian has deferred his social security benefits until in the coming year.  His IRA account balance is $500,000.

Four Percent Rule In Current Environment

Fortunately, Ian is on good terms with his brother-in-law, Fred, a CPA.  Fred agreed to sit down with Ian and see how to make his IRA last a lifetime.  First, Fred relayed that there is an old rule of thumb that says that it is safe to withdraw 4% per year from your IRA and not run out retirement money.  For Ian 4% equals $20,000.  Adding the $20,000 to the $30,000 of social security benefits, Ian has $50,000 of spending money - the low end of his estimated retirement needs.  Unfortunately, Fred added that the old rule of thumb was conceived in an era when interest rates were much higher than today.  The conventional wisdom is that retirees should weight their investments towards bonds and other interest income investments to avoid the volatility of equities. Today, prudent planning suggests assuming a 2% rate of return in the IRA during retirement.  With that rate return, Ian’s IRA will be reduced to zero shortly after he reaches age 100.  Ian asked what would happen if the annual IRA withdrawal was $30,000.  For example, inflation could occur, and Medicare is likely to become more expensive; besides, he wants the extra $10,000 each year. 

If the annual IRA withdrawal increases to $30,000, Fred said, the IRA balance would go to zero by age 89.  When Ian seemed relieved, Fred pointed out that current mortality projections show Ian with a 50% probability of living to age 89 or older.  That means there is a reasonable chance Ian will outlive his IRA savings if he withdraws $30,000 annually.   Fred’s advice at this point was for Ian to look at his expenses and determine where he can cut back. It would not be prudent to take more than $20,000 a year out of his IRA during Ian’s retirement unless or until the IRA earnings exceed the projections.

Fred's 'Failsafe' Idea

The following week, Fred called Ian to say that he had an idea.  In his professional reading, Fred had run across a new insurance product, a Qualified Longevity Annuity Contract or “QLAC” for short. Further, there are more than a dozen life insurance carriers offering QLAC annuities. When an annuity contract qualifies under the IRS rules as a QLAC, an IRA withdrawal is tax exempt if used to pay a QLAC premium. QLAC annuity payouts can be deferred as late as age 85 and once begun, must be paid for the life of the beneficiary.  The QLAC distributions are fully taxed to the beneficiary but only when paid. The premium amount is limited to the lesser of $135,000 or 25% of the IRA balance.  Multiplying 25% times Ian’s IRA balance of $500,000 is $125,000, the maximum contribution limit.   (The $ 125,000-lifetime limitation was increased to $135,000 on January 1, 2020, and will increase from time to time after that.) If Ian were to buy a QLAC and defer the payment start date until his age 85, the annual QLAC benefit from a leading insurance agency quoted online would be $33,333 for the rest of Ian’s life. 

Running the Numbers

Once Ian turns 85, the $33,333 annuity is greater than his projected $30,000 income needed to top off his Social Security income. Accordingly, the question is what kind of distribution can the IRA support before age 85?  In other words, with longevity risk eliminated after age 84 by the QLAC insurance contract, Ian can focus on the remaining IRA assets[2] of $375,000.  These assets do not have to support an uncertain lifetime of income, but instead, provide retirement income for a time certain of 15 years - from age 70 through 84.  If the post QLAC IRA balance (i.e., $375,000) earns no income, $25,000[3] can be paid annually until age 85.  A 2% earnings rate in the IRA would justify a $30,000 annual distribution in each of the 15 years.  Ian has met retirement income targets and is assured of an income for life in addition to his Social Security benefits.

Ian asked, Fred, what is the catch?  Why not adopt this “Failsafe” strategy?  Remember that the annuity is a lifetime payout, Fred replied.  After you die, the QLAC payments stop. Most likely, there will be nothing left over for your children.   It is possible to buy a QLAC that guarantees a return of the premium (e.g., Ian’s $125,000 premium) even if you die before scheduled distributions.  Of course, such an annuity pays a lower benefit than a QLAC without a guaranteed return of premium.   In the event of premature death, it might be tempting to label a QLAC as a poor investment.  When a person thinks about a QLAC as an insurance contract that prevents you from running out of money in your old age, it makes a lot more sense.  A QLAC is more like a social security benefit than it is like buying a 20-year bond. 

Learning About QLACs - Who Should Buy, Who Should Avoid?

Next, Ian wondered – why have I not heard of this before? Shouldn’t everyone buy a QLAC? To begin, Fred said, QLACs were created by a Treasury Regulation promulgated in 2014.  It is a new financial product with special tax benefits. People are just beginning to learn about QLACs.  Also, not everyone is a good candidate. First, those folks without an IRA or similar savings accounts are simply out of luck.  The QLAC premium amounts must come out of an IRA or a similar tax-qualified savings account1.  Secondly, individuals with serious health concerns are unlikely candidates for a QLAC.  Presumably, persons in poor health or with a limited expected life span will choose not to participate even though carriers will happily take their premium dollars.  Finally, QLACs are not necessary for individuals who have ample savings and have no concern about running out assets.  Their incomes equal or exceed their spending needs. Most often, these individuals will be planning how their assets are to be distributed upon their passing. On the other hand, QLAC buyers are concerned about their financial resources disappearing in their old age and becoming a burden on their children.  

Ian asked Fred about the IRA required minimum distribution rules and how they might affect the Failsafe strategy.  Ian had heard that once a person reaches age 72, there must be a minimum distribution from the IRA or severe penalties are imposed by the Internal Revenue Service (“IRS”). The IRS rules divide the life expectancy of a person into the prior year’s IRA balance.  The product is the Required Minimum Distribution (“RMD”).     Because Ian is making the IRA distributions over 15 years instead of a lifetime, each of Ian’s withdrawals will exceed the RMD for each year through age 84.   The QLAC payments occur outside the IRA, so they do not affect the RMD test. Of course, if Ian’s IRA outperforms the 2% assumption, there will be a balance in the IRA at age 85, and that balance will be subject to the RMD test.  It is important to note, however, that there is no IRS penalty for withdrawing more than the RMD or even the entire IRA balance.  

Shop Around to Buy Best Benefit and Ratings

Fred told Ian there are multiple planning opportunities Ian should evaluate before he decides to purchase a QLAC.  This is because a QLAC purchase cannot be undone once contract elections are made and the premium is paid[4].  For example, his QLAC annuity could be decreased by reducing the premium and leaving more money in the IRA.  While most carriers have a minimum premium of $25,000 or more, in Ian’s case he could reduce the premium to $112,500 to create an annuity of $30,000.  Similarly, Ian could elect for payments to start at age 83 or 84 and keep the maximum premium of $125,000.  Since Ian voiced an earlier concern about inflation, he should obtain quotes from those carriers that offer an election to include inflation factors in their QLAC distributions.  Since Ian would depend on long term payout from an insurance company, Fred added, Ian should pay careful attention to the carriers' ratings -- even though state regulators are dedicated to assuring carrier promises are kept to policy beneficiaries.

Before concluding their meeting, Fred told Ian that he wanted to share a recent conversation.  While at his country club, Fred was discussing the merits of the QLAC product with a stockbroker friend.  Fred’s buddy claimed that a QLAC was not necessary – he could create a “synthetic” QLAC by making the right investment choices.  For a minute that seemed possible – but then I asked, what if the choices do not work out?  Will you or your firm guarantee payments for life?  Not surprisingly, my stockbroker friend had no answer.

With that, Fred said, goodnight and happy retirement.  

To see how the strategy outlined above might work for you, try the QLACGuru FailsafeSM Maximize Income Calculator Page.  For more information about QLACs, including Frequently Asked Questions, Articles, and Links to authoritative information about Longevity Annuities, or links to providers Annuity Quotes, please call (800) 460-4166.  



[1] To the extent Ian had one or more IRA, 401(k), 403(b) or 457(b) type of saving plans; he previously consolidated all of these accounts into a single traditional IRA.  Ian did not have nor has a Roth type of savings account.

[2] Original IRA balance of $500,000 – QLAC premium of $125,000 = After QLAC IRA balance of $375,000.

[3] After QLAC IRA balance of $375,000 ÷ number of payment years of 15 = available annual distributions of $25,000.

[4] There are limited options to change the start date of the QLAC payments after a purchase.


How to Buy a QLAC

 

So, you’ve decided you need a Qualified Longevity Annuity Contract (QLAC), pronounced cue-lack.  

You have decided that a QLAC purchase is an excellent way to insure against the risk of outliving your assets.  You have sufficient IRA retirement assets for the purchase to make sense.  Your good health makes it reasonable to expect you will need QLAC annuity income when you are in your late 70’s and 80’s and hopefully, after.  You’ve used QLACguru’s calculators, spoken with your advisors, and evaluated whether the purchase makes good sense from a tax perspective.  (Please see our previous blog post on 8 Signs You Need a QLAC).

Now what? 

Set out below is the step-by-step process for purchasing a QLAC.  (For an infographic summarizing this blog piece, click here.) While this process may vary slightly from carrier to carrier and agent to agent, here is guidance on what to expect along the way to owning a QLAC Annuity:[i]

1.       Select an Agent or Broker.  Given the newness of the QLAC product, there are relatively few agents who are well-versed in the sales and illustration of QLACs.  Whether you ultimately buy from an online agency or a local provider, we recommend starting with an online agency with a comparison quoting engine.  Why?  Annuity Carriers vary in terms of how they price different QLAC product features. Local agents typically represent only one or two carriers while online agents like immediateannuities.com will quote 7 or 8.  So, even if you are uncomfortable making your purchase online, it pays to start your QLAC journey comparison shopping multiple carriers online first, rather than go straight to a single, local provider.  

 Here are five questions we ask when selecting an agency:[ii]

  • How long has the agency been in business?
  • With how many carriers offering QLAC annuities does the agency work?
  • How many QLAC annuities has the agency sold?
  • What is the agency’s Better Business Bureau Rating?
 

2.       Select QLAC product attributes that are best for you.  If you are married, you will need to determine whether you want to have income over the length of one life or choose a Joint & Survivor benefit which will pay over the lives of both you and your spouse.  If you have children or other heirs in your retirement plans, you will want to choose between an annuity with a “Cash Refund” (Return of Premium -- ROP) feature which provides a return of the unpaid premium amounts upon your death and a “Life-only” annuity with no death benefit.  A Cash Refund/ROP annuity will provide a better outcome for your heirs if you die early but will pay a lesser benefit during your life than a Life-only policy.

3.       Select a carrier.  Each of the decisions about product features above includes economic trade offs.   Each of these features will be priced differently by different carriers.   Also, you will want to verify the claims-paying abilities of each of the carriers by checking their credit ratings (e.g., A.M. Best).

4.       Request Annuity Purchase Paperwork.  Know what you want? Ready to pull the trigger?    It is time to contact your agent or broker.  Together, you will review your plans.  Your agent will go through an application questionnaire with you, which will allow your agent to complete the carrier’s annuity application partially.  During the review of the application questionnaire, the agent will verify the amount of the annuity purchase, making sure you are meeting all the tax rules for a QLAC purchase, including limits on how much you can contribute to your QLAC annuity.   The Qualified Longevity Annuity Contract or "QLAC" premium purchase is limited to 25% of a retirement plan (i.e., assets held in tax-qualified accounts such as an IRA), but no more than $135,000 from all plans.  Your agent will request a copy of your end-of-prior-year IRA balances from your IRA account required for the paperwork.   Other questions in the questionnaire will include the name of your IRA Custodian and your IRA account number.  Your QLAC application will also include a funds transfer form, which allows your insurance carrier to request funds directly from your IRA custodian. This kind of transfer is called a trustee-to-trustee transfer, which means you will not need to write a check to buy your QLAC policy.     

5.       Complete and Mail Annuity Application Paperwork.  The agent will overnight the carrier application to you for your review and signature.  The agent will typically include a prepaid envelope which you will use, depending on the carrier, to mail the application and funds transfer form to the carrier for processing.  It is important to review your annuity application paperwork with your agent and sign all the forms including the funds transfer form. Once the application is completed, your work is done.  The agent or broker will follow up with the insurance company to make sure that the package was received and is in good order. 

6.       Sign Receipt of Policy Delivery Notification.  Over the next two weeks, the Insurance company requests funds using the form you signed, and the IRA custodian mails the check to the Insurance Company on your behalf to purchase the annuity.  Then your QLAC annuity contract is printed by the carrier and overnighted to your agent. Your agent will make sure that the contract is correct, and will then overnight the contract to you.  Once you receive the contract, you will be asked to sign and return a receipt of delivery notification.  This notification is to confirm that you have received the annuity contract.  Often, both the carrier and agent (or broker) will request a copy of this document.

7.       Calculate Your Lower Required Minimum Distributions!  Once the carrier funds your QLAC, it must file a 1098-Q identifying you as the owner of a QLAC.  The document includes your taxpayer ID and the balance of the newly formed QLAC.  After age 72, your Required Minimum Distributions will be reduced because the QLAC purchase price is no longer part of the IRA account balance. Because the distribution was made to purchase a Qualified QLAC, that IRA distribution is not as taxable. 

8.       Receive Yearly Annuity Account Correspondence.  You will receive an annual statement of account from the insurance company.   This statement typically includes the Income start date and the amount of the benefit.  Depending on your annuity contract features, some companies will allow you to adjust the annuity start date, moving it backward or forwards in time, typically in five-year increments.  This flexibility usually applies to cash refund (Return of Premium) policies only.  (If you think you’ll want this kind of flexibility, ask which carriers offer this flexibility before you buy the QLAC.)

9.       Decide How Annuity Payments Should Be Made.  One to two months before the income start date of your annuity, many carriers will send a letter offering to set up direct deposit.  You can choose to receive a paper check or direct deposit.  For this, you will need to provide a voided check and your checking account information.

10.   Enjoy Life-long Annuity Benefits Payments.  Congratulations!  Because of your careful planning, you will receive annuity payments from the insurance company for the rest of your life.  Uncle Sam will treat your QLAC annuity benefit payments as ordinary income.  You will receive a 1099-R from the insurance company at the end of each year recognizing this income to you.  The longer you live, the smarter you will feel about your QLAC purchase! 



Want to learn more? Check out our videos page to see additional QLACguru videos.  See our calculators page to develop an anonymous RMD calculation and estimated QLAC quote. Answer specific questions by going to our Knowledgebase page.  Visit our blogs page for in-depth articles on a variety of topics including how QLACs help with sequence Sequence Risk, how QLACs are similar to and different from Social Security, as well as many other topics. Free Consultation.  If you would like us to develop a free RMD analysis and illustration of how a QLAC might work for you, please click here.


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