Annuities, Retirement Plans, Taxation

Accumulation Period

• “Paying-in” money

• Interest grows tax-deffered

• Annuity value belongs to the owner

Annuitization Period

• Income generated from accumulated money

• Money from the accumulation period or from inheritance, lottery winnings, or court settlements

• Money belongs to the insurance company

Contract Owner

• Names the annuitant

• Names the beneficiary

• Can withdraw money

• can end the contract

Annuitant (insured)

• receives the income

• can be more than one person

Beneficiary

• Receives the accumulation value if the owner dies

• may receive income payments if the annuitant (insured)

Insurer

Issues the contract

Life insurance-death

premium buys a death benefit

Annuity-living

Premium used to

• accumulate money

provide an income while living

Immediate annuity

• purchased with a single premium (single payment immediate annuity spia)

• Has no, or a short, accumulation period

• Income payments begin within one month after purchase (up to 12 months)

Deferred Annuity

• Bought with a single premium (SPDA: single premium deferred annuity) or flexible premiums (FPDA)

• Has an accumulation period

• Owner decides annuitization at a later time

• Benefit payments are postponed until retirement age

Surrender or Withdrawal

• 10% tax penalty if withdrawn before age 59 ½

• Surrender period-waiting period

• Surrender fee- penalty for early withdrawal

Death Benefit

• Accumulated value if the owner dies

• payable to the owner’s estate if there is no beneficiary

• Death benefit equals the greater of:

  • accumulated value of the annuity

  • total premiums paid minus withdrawls

Life Income

• Also referred to as:

  • life only

  • straight life

  • pure life income

  • life-no refund

• guarantees income for life-regardless of how long

• death stops payments (even if after one payment)

• largest monthly check from life options

Life-Refund Certain

• Cash refund or installment refund

• Income for life

• Death payments less than the contract value

  • Balance to beneficiary

    • Lumpsum or monthly payments

Life-Period Certain

• Income for life while they live

• Choose a period such as 10 or 20 years

  • Annuity will pay the beneficiary if the annuitant dies within that period

Joint Life and Survivor

• One dies

  • payments to survivor until their death

    • same or reduced

Joint Life

payments stop when the first of the two annuitants dies

• Annuitant’s age

• Annuitant’s gender Length of payment guarantee

• Assumed interest rate

Factors Affecting the Payment Amount

Fixed Annuities

• General account

• Long-term, low-risk investments

• If annuitized-fixed income payments

• Money guaranteed by the company

• Can lose purchasing power due to inflation

Variable Annuities

• Separate account

• No guarantees by the company- owner assumes the risk

• Premium buys accumulation units

• If annuitized, accumulated money buys annuity units

• Value can go up or down

• Must be licensed by the state and security regulators (SEC & FINRA)

Equity-Indexed Annuities

• Are fixed annuities

• Value is guaranteed by the company

• Interest earned can go up or down like the stock market index (S&P 500)

• No securities license required

Market Value Adjusted Annuities

• Single premium deferred annuities

• Interest rate for a fixed number of years

• Early Surrender

  • Withdrawal penalty

  • Interest penalty-maybe higher or lower

• Not a variable product-no securities license required

• Life income

• tax-favored savings

• Funding Individual retirement accounts

• Education funds

Uses of Annuities

Group Annuities

• funded by employer contributions\distributions determined by the employer

• Must be formed for a purpose other than obtaining insurance for its members

• Single employer sponsored

• Multiple employer trust (MET)

  • Trust formed by a group of small employers in the same industry or similar industries

• Labor Union

  • Taft-Hartley Trust

• Professional or trade association

• Group credit life

  • Lender is automatically the beneficiary

  • Insurance cannot exceed the debt

• Employer spnsored group life

  • Employer is the policyowner

  • Employess receives a certificate of insurance and also names the beneficiary

Group Life Insurance -Types of Eligible Groups

Master Policy

Issued to the policyholder or applicant

Certificate of insurance

Evidence of coverage given to employees or members

Contributory

Employee pays part or all of the premium

75% of eligible employees must enroll

Noncontributory

Premium paid by the employer

100% of eligible employees must enroll

Group Underwriting

• Underwriter underwrites the group, not individual insureds

• Usually no medical questions or exams

Probationary Period

• Waiting Period before eligibility for insurance

• Ranges from 1-12 months

Enrollment Period

• Follows probationary period-usually 31 days

• No medical quesitons

Group Eligibility

• Employer determines class

  • Full time vs part time

• Probationary period

  • Waiting period before eligibility for insurance

• Enrollment period

  • Follows probationary period- usually 31 days

  • No medical questions

• Late enrollment

  • if allowed-may require underwriting

Dependent Coverage

-Typically less coverage than the employee

Conversion

• Termination of employment

• Employer stops plan

• 31 days from when a qualified event is triggered

  • Convert to an individual permanent policy

  • Cost based upon attained (current) age

  • No medical questions

  • Death during conversion is covered

Group Credit Life

• Sponsored by the lender

• Lender is the beneficiary

• Usually no medical questions

• Cheaper than an individual policy

• Insurance is no greater than the debt owed

• Stops if the debt is paid

Individual Credit Life

• Insured is usually the policyowner

• Assigned to the lender

• Death benefit can exceed the debt

• Doesn’t stop when the debt is paid

• Can be more expensive than group

• Usually requires medical questions

Individual Retirement Accounts

• Must have earned income

• Nonworking spouse can make contributions based upon the earned income of the working spouse (spousal IRA)

IRA contributions

• Up to 100% of earned income

• Subject to annual maximums

• Extra contributions - age 50 or over

IRA deductibility of contributions

• phase out of deduction based upon adjusted gross income (AGI)

• No deduction if income is above the maximum AGI

IRA funding

• Investment can’t be put in:

  • life insurance

  • artwork, antiques, stamps, or coin collections

  • gold or silver bullion

    • Us. minted coins are ok

Withdrawals Prior to age 59 1/2

• IRA withdrawals taken before age 59 ½ may have a tax penalty and income tax applied

• There are ways the penalty can be waived

  • Down payment for a first home ($10,000 maximum)

  • College Education

  • Health Insurance premiums while unemployed

  • Certain medical expenses

  • Payments over life expectancy

  • Birth and adoption expenses ($5,000 maximum)

Rollovers

money is withdrawn and sent to the owner

• owner has 60 days after receipt to put money in the IRA

• If the money is coming from an employer-sponsored plan

  • 20% is withheld and sent to the IRS

Limited to one rollover every 12 months

Transfers

Money sent directly from one plan to another

• No limit on the number of transfers

• No money is withheld and sent to the IRS

IRA Required Minimum Distribution

• Must start making minimum withdrawals at age 72

• First minimum withdrawal can be delayed until April 1 of the year following the year the owner turns 72

• 50% penalty on taxes owed if the minimum distributions are not taken

• Annual minimum withdrawals are based upon the owner’s life expectancy

Taxation of IRA Withdrawals

• Fully taxed if all money in the IRA has not already been taxed

• Nondeductible contributions are distributed tax free

Distributions From an IRA Upon Death

• Spouses may choose to treat the IRA as their own or they may choose a lump-sum distribution

• Non-spouse beneficiaries may take a lump-sum distribution or take distributions over the 10 years following the owner’s death

• The entire value of the IRA is includable in the deceased owner’s estate for estate tax

Roth IRA

• Contributions are not tax deductible

• Contribution limits are the same as a traditional IRA

• Withdrawals are tax free

  • Account open for five years

  • Not before age 59 1/2

Employer Sponsored Retirement Plans

• Regulated by ERISA (Employee Retirement Income Security Act of 1971)

• Tax advantages to the employer and/or employee depend on how the plan is funded

  • Employer contributions are tax deductible

  • Employee contributions are tax deductible

  • Interest earnings grow tax deferred

Participation

Plans must benefit all regular employees, not just a few selected ones

Nondiscrimination

Plans may not provide benefits to executives and other highly paid individuals that are out of proportion to other employees

Vesting

• Determines when an employee owns the money in a retirement plan

• Employees are always 100% vested in their own contributions

• Employer contributions-employees must become vested in at least six years

Reporting and disclosure

each participant must receive, in writing, a summary plan description, notification of any significant changes, and an annual report

Fiduciary duty

• Anyone with control over the plan or its assets is a fiduciary

• Fiduciaries must manage the plan solely in the best interest of its participants

Pension Plans

Defined benefit

• Retirement benefit is specified in the plan

Retirement contribution

• Retirement benefit is not specified

• Contribution is specified

Profit Sharing

• Contributions are made by the employer

• Based on company profits

• Contributions are not made every year

• Maximum contribution is 25% of total employee payroll

Keough *HR-10)

Designed for:

• self-employed persons

• Individual sole proprietors

• partnerships

May be a defined benefit or defined contribution plan

401(k) Plans

• employee may make contributions-salary (elective)

• Employers may match contributions up to a specified percentage

403(b) Plans

• School employees

• Employees of nonprofit organizations

Simplified Employee Pension (SEP) Plan

• Employer makes contributions on the employees behalf

• Higher contribution limits than a traditional IRA

• Employees must be 100% vested in the employer contributions

Savings Incentive Match Plans for Employees

• Employers with 100 or fewer employees

• Employees can contribute

• 100% immediate vesting for employer contributions

• All employees earning $5,000 or more per year must be allowed to participate

• 25% early withdrawal penalty for the first two years of participation

Employee Retirement Income Security Act

• Protects employees and beneficiaries

• Applies to qualified pensions and also group insurance

• ERISA requires that certain information be made available to plan participants, beneficiaries, and the Department of Labor

Nonqualified Plans

• Not regulated by ERISA

• Employers can design these plans any way they want

• Can discriminate in favor of higher paid employees

• Contributions are usually not tax deductible

• Tax deferred

• not taxed while in the policy

• Policyowner is taxed if gain is withdrawn

Interest earned on Cash Value

Full Surrenders

any gain is taxable

gain

cash value - premiums paid

Cash Value Loans

• Not taxed while the policy is in force

• Taxed if the policy is surrendered and there is a gain

• Interest paid on loans is not tax deductible

Dividends

• Not taxed

• Considered to be a return of premium

• Interest earned is taxed

Death Benefits

• Not taxed if paid in a lump sum to a named beneficiary (individual or business)

• Interest is taxable

• If paid over time, part of the payment is not taxed and part is taxed

Accelerated Benefits

• Critically Ill

• Terminally Ill

• Death

• Not taxed

Taxation of Business Life Policies

• Premiums are not tax-deductible except for an executive bonus

• Death benefits are not taxable

• Premiums for executive bonus policies are taxable income to the employee

Taxation of Group Life Insurance

• Premiums paid by employer are tax deductible

• Premiums paid by employee are NOT tax deductible

• Death benefits to a named beneficiary are not taxable

• Premiums paid by employer for insurance above $50,000 is taxable income to the employee

Modified Endowment Contract (MEC)

• Seven-pay limit-too much premium paid in the first seven years of the policy

  • Flexible premium universal life

  • Single premium whole life

• Interest on cash values is not taxed while in the policy

• Withdrawals or loans are taxed

  • Interest out first

  • 10% penalty on interest if it is withdrawn before age 59 ½

• Once a MEC, always a MEC

Section 1035 Exchange

Life to life-not taxable

Annuity to annuity-not taxable

Annuity to life does not qualify (A to L)

Annuity gains are taxable

Estate Taxes

• Taxes are due on transfer of wealth

• Taxes are a percentage of the estate’s value

• Life Insurance death benefits are included in the insured’s gross estate if:

  • They are payable to the insured’s estate if:

    • They are payable to the insured’s estate

    • The insured owns the policy at the time of death

    • If the insured transferred ownership within three years of death