2 Annuities Flashcards
Ways to fund an annuity (accumulation phase)?
(3 options)
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- Installment Premium: A series of scheduled, fixed payments over time
- Single Premium: one-time, lump-sum payment; can be either immediate (SPIA) or deferred (SPDA)
- Flexible Premium: make varying contributions over time
Options for when annuity payments (to you) start? (3 options)
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- Immediate: Funded with a single lump-sum payment; payouts begin within 12 months of purchase (often within 30 days)
- Deferred: At least one year until distribution, e.g., at certain age, can withdraw, decide whether to annuitize, etc
- Deferred Income Annuity (DIA): Less flexible, no early withdrawals, no accumulation phase; for guaranteed future income at a later age
How annuity funds are invested?
(3 types)
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- Fixed: Involves a “min guaranteed rate” and a “current rate”
- Indexed: E.g., 60% participation rate, annual or 2-year point-to-point (nterest is credited based on the change in index value between those points)
- Variable: Subaccounts just like with variable insurance, not subject to insurance company’s creditors; often can go to $0
Same as life insurance
Terminology for Equity-Indexed Annuities & Insurance Policies:
- Participation rate
- Point-to-point
- Spread
- Cap Rate
- Floor
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- Participation rate: E.g., 60%
- Point-to-point: Interest is credited based on the change in index value between those points, e.g., annual or 2-year
- Spread: A percentage deducted from the index’s growth before interest is credited. E.g., if the index grows by 10% and the annuity has a 2% spread, the credited interest is 8%.
- Cap Rate (Caps): Max interest that can be credited
- Floor: Often 0%
Indexed life insurance uses the same terms
Withdrawals from Annuities
- Taxability, types, & penalties
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Taxation:
- Ordinary income (like all taxable life insur. & annuity proceeds)
- LIFO tax treatment
- 10% penalty if ≤ 59 1/2 (retirement age)
Types:
- Can be full, partial, or systematic
Surrender charges:
- Most annuities have a schedule where surrender charges gradually decreases over time (eg 7 or 10 yrs).ª
Systematic withdrawals are different than “annuitization” because you retain access to the remaining funds (more flexibility)
What is an annuity premium bonus?
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A percentage of the initial premium added to the contract value at the time of purchase (often 2% - 10%).
* Example: If an annuity offers a 5% bonus and the client deposits $100,000, the account value starts at $105,000.
Life-Only Annuitization
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- Provides highest income
Annuity Guaranteed Minimums
- Refunds (Installment or Cash)
- Period Certain
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A refund annuity ensures that at least the original premium amount is paid out:
- Cash Refund Annuity (as a lump sum)
- Installment Refund Annuity (in payments)
Period certain annuities guarantee payments for a fixed period, regardless of whether the annuitant is alive
Guaranteed minimums increase costs / decrease benefits
Taxability of Annuities
- If annuitized
- Withdrawals
- If exchanged
- If inherited
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Annuitized:
- Ordinary income
- If annuitized and has an “after-tax” basis, then Basis ÷ Expected payout = “Exclusion Allowance” proportion applied to each payment and ends when basis has been recovered (annuities from before 12/31/1986 didn’t end Excl. Allow when basis even after basis was recovered)
Withdrawals:
- LIFO (FIFO before 8/14/1982)
- 10% early withdrawal penalty (on taxable amount above basis, not on basis) if age < 59 1/2 (some exceptions, see IRA exceptions here)
Exchanges:
- May be tax-free for other annuities if Section 1035 exchange
Inherited:
- No step-up in basis [considered “IRD” assets, “Income in Respect of a Decedent”, they are considered income the decedent would have been taxed on.]
Joint vs Joint & Survivor Annuities
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- Joint: Regular income payments for as long as either of two annuitants is alive
- Joint & Survivor: Payments decrease when one annuitant dies (e.g., the survivor can receive 100%, 75%, 66 2/3%, or 50% of the original payout after the first annuitant dies. The fraction refers to what the survivor receives.)
Section 1035 exchanges
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Used primarily to defer taxation in the exchange of life insurance and annuity contracts.
You can exchange for the same kind or lower kinds but never “uphill”:
1. Life Insurance
2. Endowments
3. Annuity
4. Qualified LTC
Rsemember “Love Elizabeth As Queen”
It’s like a 1031 exchange, but +4 for the 4 types of things it covers = 1035
