Do you ever worry about outliving your money?
Today’s longer lifespans have some investors wondering whether they will outlive their retirement savings. As of 2022, the average life expectancy around the world is nearly 73 years. Critical expenses, such as prescriptions, in-home-care and other health care expenses will also increase as we age.
Luckily, there are steps you can take to make your money last longer. One of the most popular options is an annuity or Qualified Longevity Annuity Contract (QLAC).
What is an Annuity and is it Right for Me?
Annuities are an insurance product designed to be another way to have a predictable income. There are many forms of annuities, but they all provide tax deferral on your investments. Annuities are sold by insurance companies, and some have commissions and others are a fee.
What you want to do is ask some crucial questions before purchasing one.
1. How much is the upfront cost?
Fixed annuities give you a fixed rate of return for a specified time and have the lowest cost. Variable annuities are invested in mutual funds and your return is variable, based on how it is invested. Expenses are higher depending on the extras added to the contract (called riders) and how it’s invested.
Typical costs range from 5-8% and can come with steep penalties if you want to cancel. Your return is NOT guaranteed but the amount you can withdraw, without penalties, is guaranteed.
For example, you buy a variable annuity for $100,000 and they guarantee a 5% withdrawal rate. Every year you can withdraw up to $5000 out of the annuity without penalty. The account value will fluctuate based on the investments. There is NO guarantee on the return. People often confuse the withdrawal rate with a guarantee on return.
2. What does an annuity cost in the long-term?
If your annuity is a variable-rate annuity that means it is invested in mutual funds or indexes. hey still have internal fees associated with them just like an investment account. Most annuities come with a 7 to 10-year surrender charge that decreases the longer you have it.
Riders on a contract also add to the cost and can be 0.50% up to 1.5% depending on the extras. For example, you may have a step in basis rider that locks in market value to determine the 5% income withdrawal rate.
3. I want guaranteed income – is an annuity right for me?
If someone wants you to take all of your retirement funds and put them in an annuity, you need to question their intentions. A retirement account is already tax-deferred and there are plenty of ways to draw an income from them. Money outside retirement accounts is a better place for annuities, because of the tax-deferral. However, eventually, you or your heirs will owe capital gains on that annuity when it’s cashed in.
However an annuity does not eliminate risk, it just allows an alternative way to receive income. Always consult your CPA on the tax benefits of an annuity. Fee-based planners are better to consult with as there is no incentive to sell commissioned based products.
Ultimately you need to understand what you are buying and how it works. If you have more questions make sure you understand the answer before you buy it.
Qualified Longevity Annuity Contracts (QLAC)
An annuity called a Qualified Longevity Annuity Contract (QLAC) is a deferred income annuity that allows the start date for taking income until age 85. Basically, a QLAC allows individuals to receive retirement income distributions later in life, thus providing you income longer. QLACs can be funded with assets from traditional IRAs or eligible employer and government qualified plans.
Note, though, that QLACs cannot be purchased using Roth or inherited IRA dollars. And only a limited amount of money can be used to buy a QLAC. Either up to 25% of the value of all your retirement assets or up to $125,000, whichever is less.
Who Might Benefit from a QLAC?
How do you know if a QLAC is a viable option for your retirement? You should explore a QLAC if one or more of the following apply to you:
- Investors approaching RMD age (70½) or those currently taking RMDs.
- Investors that have existing income that will last for a number of years and do not currently need all of their RMDs for income.
- Investors that want the flexibility to start additional income between ages 70½ and 85.
Who Should Not Buy a QLAC?
On the flip side of the coin, what would make an individual unfit for a QLAC?
- Anyone who doesn’t expect to live much past the age of 85. You can determine how long you are likely to live by using the life-expectancy calculator available at SSA.gov. (If you die before age 85, your heirs get nothing from QLAC unless you purchased a “return-of-premium” death benefit guarantee).
- Investors with assets that provide sufficient money to live on no matter how long they live.
- Anyone whose assets total so little that they are likely to run out before age 85. A QLAC would not make sense because that money will be needed to live on.
If you want to learn more about QLACs and whether or not they’re a good fit for your financial plans, it’s best to consult with a financial professional.
A Certified Financial Planner will be well-versed on the benefits, costs and strategies of QLACs and other annuities. Be sure to do the research due diligence, including talking to your financial planner.
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