The Treasury Department released the final regulations for Qualifying Longevity Annuity Contracts (QLACs). QLACs, are a brand new type of fixed longevity annuity that is held in a retirement account that has special tax attributes. These new annuities offer a unique tool to help make sure you don't outlive your money. The QLAC rules, however, are a complicated mix of IRA rules and annuity rules, and you may need help in understanding their key provisions.
Typically, the age in which the required minimum distributions (RMDs) begin is age 70 ½. The new regulations have now made it easier to invest a portion of your retirement savings in annuities that won't pay benefits until age 85. Obviously this reduces the number of years for which you’ll likely receive an income stream, but it also helps to maximize the amount of income you can receive in later years for a given premium.
The Summary of Comments and Explanation of Revisions that was released with the Final Regulations offered the following: "For example, if at age 70 an employee used $100,000 of his or her account balance to purchase an annuity that will commence at age 85, the annuity could provide an annual income that is estimated to range between $26,000 and $42,000."
Here are some of the highlights of the QLAC Final Regulations:
- You will be able to exclude the value of a QLAC from your RMD calculations, allowing you to keep a greater portion of your IRA (or other retirement account) intact longer.
- Payments from QLACs will have to begin no later than the first day of the month after you turn 85.
- You will be limited as to how much of your retirement savings you can invest in a QLAC. The limit will be the lesser of $125,000 or 25% of your applicable retirement account assets. The 25% limit will apply on an individual plan basis, except for IRAs, BUT the $125,000 is a cumulative limit for all QLACs in all retirement accounts. For IRAs, the 25% limit will apply to the prior year-end total of all IRAs (not including Roth IRAs).
- The limits will apply separately to each spouse when each spouse has their own retirement accounts.
- QLACs cannot be variable or equity-indexed annuity contracts, though insurance may offer contracts with cost-of-living adjustments.
- QLACs cannot offer any cash surrender value. So if you buy one, just be sure you won’t be needing that lump-sum of money anytime soon!
At this point you may be wondering why the Treasury Department created QLACs. Prior to the establishment of QLACs, there were significant challenges to purchasing longevity annuities with your IRA money. The rules required that unless an annuity held within your IRA had been annuitized, its fair market value needed to be included in your prior year-end balance when calculating your IRA RMD. So, if you had non-annuitized IRA annuities in your IRA, this left you with an inconvenient choice to make after reaching the age at which RMDs begin. At that time, you needed to either:
- Begin taking distributions from your non-annuitized IRA annuities – reducing their potential future benefit, or
- Annuitize your annuities – which would obviously produce a lower income stream than if they were annuitized at a more advanced age, or
- “Make-up” the non-annuitized annuity’s RMD from your other IRA assets – drawing down those assets at an accelerated rate.
None of these options were particularly attractive and now, thanks to QLACs, you will no longer have to make such decisions – at least with respect to a portion of your retirement savings.
The final regulations limit the amount of money you can invest in a QLAC in two separate ways, a percentage limit and an overall limit. First, you may not invest more than 25% of your retirement account funds in a QLAC. For IRAs, the 25% limit is based on the total fair market of all your non-Roth IRAs, including SEP and SIMPLE IRAs, as of December 31 of the year prior to the year the QLAC is purchased. The fair market value of any QLAC held in an IRA will also be included in that total, even though it won’t be for RMD purposes.
The 25% limit is applied in a slightly different manner to 401(k)s and similar plans, so if you’re thinking about using plan money to purchase a QLAC, be sure to check on those specific rules.
In addition to the 25% limit described above, there is also a $125,000 overall limit on total QLAC purchases. When looked at in concert with the 25% limit, the $125,000 overall limit becomes a “lesser of” rule. In other words, you can invest no more than the lesser of 25% of your retirement funds or $125,000 in QLACs.
Perhaps the biggest difference between the proposed regulations of 2012 and the final regulations relate to the potential death benefit options. Initially, the only QLAC death benefit option was going to be an income stream paid out over the life of the beneficiary (the size and start date of the payments were to vary depending on whether the beneficiary was a spouse or non-spouse designated beneficiary). That’s still an option under the final regulations, but an additional return-of-premium option is also now possible.These, of course, are the death benefit options allowed to be offered by a QLAC under the final regulations, but that doesn’t mean that every QLAC will do so. It’s likely that insurance companies will begin to introduce annuity products that meet QLAC specifications in the near future. If it sounds like a strategy that may make sense for you, give us a call we can provide you with a FREE evaluatation of your options.