Mind on Money: New law means a new look at a type of annuity

Mind on Money: New law means a new look at a type of annuity

The Secure Act 2.0, which is one of the most material updates to rules governing retirement savings and accounts, is now law. The law was included in the huge omnibus spending bill passed late in the last Congress. While the Secure Act 2.0 updates rules on topics such as 401(k)s, Required Minimum Distributions, long term care insurance and even “emergency” funds, also embedded in the new law are rule updates on a fairly obscure type of financial product called the Qualified Longevity Annuity Contract, or QLAC.

QLACs are designed to address exactly what their name implies: Longevity. These distinct fixed annuity contracts were created to pay lifetime income to retirees, but not until later in life. The technical name for this type of annuity is a deferred income fixed annuity. I know any time an annuity is involved, people can come into the conversation with pre-disposed opinions and often times misperceptions. So, in order to get educated on these particular types of annuities I think it's good to break down the technical terms in the name.

A deferred income annuity will be designed to pay income to the contract owner immediately, but is rather intended to pay income to the owner in the future, or at a deferred time. A deferred income annuity will receive the fixed rate of return referenced above until such time as the deferral period is over, and then the annuity will begin paying income sometimes at a different fixed rate. The income should also be guaranteed by the insurance company.

With these terms defined, a QLAC is an annuity that defers income until an age later in life, typically over 10 years from when the annuity is purchased, and then provides the income once it starts on a term extending through the annuity owner's life, thus helping to manage the risk of a retiree outliving their retirement income steam.

The new Secure Act 2.0 provides some preferred tax treatment for QLACs utilized within IRAs as well as within qualified retirement plans such as IRAs, 401(k)s and 403(b)s, and it increases the limit that retirement plan owners can elect to deposit into a QLAC.

The preferred tax treatment allows money to be removed from qualified retirement plans and IRAs and deposited into a QLAC without triggering a taxable event. But the real benefit is, retirement fund balances held in a QLAC during the deferred income period are not included in calculating the required minimum distribution amount that must be removed from the retirement account when the owner reaches age 73.

The Secure Act 2.0 now enables retirement account owners to deposit up to $200,000 into a QLAC, which depending on age, could reduce required minimum distributions from roughly $8,000 to $10,000 a year, which could prove useful for retirees wanting to control income in order to manage tax brackets or Medicare premium levels. Income and required minimum distributions can be delayed with a QLAC until age 85.

QLACs have not been a part of my practice at Oak Partners, but with interest rates rising substantially after many years, the returns offered by insurance companies are becoming more attractive. With higher potential returns and the rule changes associated with the Secure Act 2.0, I am beginning to see how these products might be utilized to provide an additional layer of retirement income security for some families over the long term as well as provide some additional tax planning control in the near term.

This material was created for educational and informational purposes only and is not intended, tax, legal or investment advice. If you are seeking investment advice specific to your needs, such advice services must be obtained on your own separate from this educational material. Fixed annuities are long-term investment vehicles designed for retirement purposes. Withdrawals made prior to age 59 ½ are subject to a 10% IRS penalty tax and surrender charges may appl.

Marc Ruiz is a wealth advisor and partner with Oak Partners and registered representative of LPL Financial. Contact Marc at marc.ruiz@oakpartners.com. Securities offered through LPL Financial, member FINRA/SIPC.