NY QUALIFIED ANNUITIES Flashcards
Regarding annuities, what are “Qualified Plans”?
Qualified retirement plans are plans that meet certain specifications in order to have preferred tax treatment under the Internal Revenue Code. Qualified retirement plans accumulate funds on a tax-deferred basis and must meet required distribution rules once the owner reaches a certain age. Individual retirement accounts also receive special tax treatment, but are not, technically speaking, qualified plans because they don’t have all the same requirements as qualified plans sponsored by employers. However, since they have many similarities to qualified plans, IRAs are often also spoken of as qualified retirement plans.
Annuities may be placed within qualified plans as the funding instrument for the plan. Or, they may be opened as an IRA plan. When an annuity is used as a funding vehicle for a qualified plan or as an IRA, the annuity takes on the tax characteristics of that qualified plan or IRA.
What are the Types of Qualified Annuities?
Annuities may be utilized within many plans. These include the Roth IRA, The traditional IRA, the SMPLE IRA, the SEP IRA, the 401(k) and the 403(b) plans.
What are the Individual Retirement Annuities?
Two types of IRAs are available for individual earning compensation, the Roth and the Traditional IRA.
What is the Roth IRA?
Contributions may be made to Roth IRAs by individuals with compensation below certain modified adjusted gross income levels (MAGI). For individuals who file their taxes as married, filing jointly, the ability to contribute to a Roth is not available once MAGI is $228,000 or more. The amount that may be contributed is reduced for those with MAGI from $218,000 to $228,000. For individuals earning compensation who file their taxes as single, head of household, a qualifying widow(er) or married filing separately, Roth contributions may not be made once MAGI is $153,000 or more and are reduced between MAGI levels of $138,000 to $153,000.
The current maximum annual Roth contribution is the greater of 100% of compensation or $6500. Those who are 50 or older may contribute $7500 (2023). Non-earner spouses of individuals who earn compensation, or a spouse who earns less than the maximum contribution amount may also make a contribution up to the maximum amount to their own Roth IRA.
Distributions from Roth IRAs that are considered “qualified distributions” are not taxable upon receipt. Contributions to Roth IRAs are made with after-tax dollars, so the money has been taxed. Under the special tax rules that apply to Roth IRAs, earnings accumulate without taxation as long as qualified distributions are made. In order to be a qualified distribution, the distributions must be made after the fifth-taxable-year period beginning with the first taxable year for which a contribution is made to a Roth IRA and meet one of the following conditions:
the IRA holder has reached age 59½;
the IRA holder is disabled;
the IRA holder has died hand the distribution is made to a beneficiary or the holders estate; or
the distribution is made to buy, build or rebuild a first home, and the distribution is $10,000 or less. The first time home buyer is one who had no present interest in a main home during the two-year period ending on the date of acquisition of the home with the distribution is being used to buy, build, or rebuild.
If a distribution is not a qualified distribution, generally, the earnings are taxable, and a 10% additional tax is applied to the tax on the earnings. The exceptions to the additional 10% tax are the same as those for Traditional IRAs. Roth IRA distributions to the owner do not have to begin at age 73 and do not have to meet minimum distribution requirements.
Contributions may be made up to the tax filing date of the following tax year (e.g., contributions for 2023 may be made until April 15, 2024).
What are Traditional IRAs?
Traditional IRAs
Traditional IRA rules are somewhat more complex than Roth IRAs. Traditional IRA contributions are made with after-tax dollars but are generally tax-deductible in the year they are made. Anyone earning compensation may make traditional IRA contributions. They are subject to the same contribution limits as Roth IRAs – $6500 for 2023 unless the individual is 50 or over, where a $7500 contribution amount may be made. Spouses of individuals who earn compensation may also make these contributions up to the maximum contribution amount if the spouse is a non-earner spouse or earns less than the maximum contribution amount.
If an individual makes a contribution to both a Roth and a traditional IRA for the same tax year, the maximum combined contribution may not exceed the maximum contribution level for the individual. For example, if an individual age 42 earns $60,000 in 2023, the individual could contribute $3250 to a Roth IRA and $3250 to a traditional IRA. Contributions must be made by the tax filing date of the year following the calendar year for which they are made.
What are the Required Distribution Dates for the Traditional IRA?
Traditional IRAs are subject to required distribution rules. Distributions must generally be made by December 31 of each year after the individual reaches 73. The deadline for the first year’s distribution is April 1 of the year following the year the individual reaches age 73.
Explain the Deductibility for the IRA holder:
Deductibility
If the IRA holder, and spouse if applicable, is not covered by an employer retirement plan, such as a 401(k) plan, contributions to traditional IRAs are tax-deductible up to the maximum contribution limit. However, if the IRA holder or spouse is covered by an employer retirement plan, the deductibility of these contributions may be limited based on the MAGI and filing status of the individual. When an individual is covered by an employer retirement plan, the individual or spouse’s W-2 form will have the “retirement plan” box checked.
The deductibility of traditional IRA contributions is phased out for those who are covered by an employer retirement plan for individuals with the tax status married, filing jointly at MAGI levels from $116,000 to $136,000 and is eliminated once MAGI reaches $136,000. For individuals filing single or head of household, the deductibility is phased out from $73,000 to $83,000. For a married individual filing separately, deductibility is eliminated once MAGI reaches $10,000 and is reduced between $0 and $10,000.
If the IRA holder’s spouse is covered by the employer retirement plan and the IRA holder is not, deductibility phase-out levels are different. Under these circumstances, if the tax status is married, filing jointly, deductibility is phased out if MAGI is between $218,000 and $228,000 and is eliminated above $228,000. If tax status is married, filing separately, the phase out range is $0 to $10,000 in MAGI and is eliminated when MAGI is $10,000 or more.
Regarding IRAs, explain distributions
Contributions may be made up to the maximum traditional IRA contribution level each year, even though they may not be wholly deductible. This means that a traditional IRA may hold both deductible and non-deductible IRA contributions, along with tax-deferred earnings. Upon distribution, the deductible contributions and earnings are taxable.
If an IRA holds both deductible and non-deductible contributions, each distribution is taxable based on the ratio of non-deductible contributions to the total value of the IRA. For example, if $10,000 in non-deductible contributions have been made, and the total IRA value is $100,000 at the time of distribution, and a $5000 withdrawal is made, 10% of the distribution, or $500, is non-taxable.
What are Required Minimum Distributions?
Distributions from traditional IRAs must meet certain minimums once the IRA holder reaches age 73. The amounts that must be distributed are based on IRS tables found in IRS Publication 590-B. Generally, the IRA funds must be distributed over the life expectancy of the IRA owner or the joint life expectancies of the IRA owner and a beneficiary. An alternate method is also allowed, the annuity method using a life annuity. As long as the insurer meets the IRS requirements in paying out the life annuity, the IRA holder is considered in compliance with the traditional IRA required minimum distribution rules.
The SECURE Act and SECURE 2.0 included a very significant change to distribution rules. Prior to January 1, 2020, the general required beginning date for Traditional IRA and other qualified retirement mandatory distributions was triggered by the participant reaching age 70 ½. The SECURE Act changed this trigger to age 72 of the participant, effective after December 31, 2019, through December 31, 2022. SECURE 2.0, which was enacted at the end of 2022, made further changes, and raised the required beginning date to age 73, through the year 2033. Beginning in 2034, the required beginning date is age 75 (this applies to those born in the year 1960 and later).
What are the penalties if withdrawals from a traditional IRA are taken prior 59 1/2 ?
When withdrawals are taken from a traditional IRA prior to the owner’s age 59 ½, an additional 10% tax must be paid on the taxable amount of the distribution.
What are the exceptions to the premature withdrawal tax penalty?
When withdrawals are made that meet one of the following exceptions, the 10% premature withdrawal tax is waived:
for unreimbursed medical expenses that are more than 7.5% of the IRA owner’s gross income;
the distribution amount is less than the cost of medical insurance premiums paid by the IRA owner for the owner, spouse and/or dependents and all of the following apply:
the IRA owner lost his or her job;
the IRA owner was paid unemployment compensation for at least 12 weeks because of job loss;
the distribution amount is received the year the unemployment compensation was received, or the next;
the distribution is received no later than 60 days after the IRA owner is reemployed;
the IRA owner is disabled as defined by the IRC;
the distribution is paid as an annuity over the life or life expectancy, of the IRA owner or over the joint life expectances of the owner and a beneficiary;
the distribution does not exceed qualified higher education expenses paid by the IRA owner for education for the owner, spouse, children or grandchildren;
the distribution is due to an IRS levy of the IRA;
the distribution is used to build, buy or rebuild a first home;
the distribution is a qualified military reservist distribution;
used for birth and adoption expenses – up to $5000 per birth/adoption, if made during the 1-year period beginning on the date on which a child of the individual is born or on which the legal adoption is finalized.
The individual is terminally ill, as certified by a physician, with an illness or condition that can reasonably be expected to result in death in 84 months or less. Such distributions may be repaid to the plan
As of 2024, up to $1000 for emergency personal expense in one distribution in a plan year. No other distribution may be taken under this exception for three calendar year following this distribution, unless the distribution was repaid to the account or the total amount of contributions to IRAs and other qualified retirement plans exceeds the amount of the distribution. The individual may repay the distribution within three years to avoid taxes on the distribution. Emergency personal expenses are those due to unforeseeable or immediate financial needs relating to personal or family emergencies.
As of 2024, the individual is a victim of domestic abuse and the distribution is not more than an amount equal to the lesser of $10,000 or 50% of the individual’s account balance, and the distribution is taken during the one-year period beginning on any date on which the individual is a victim of domestic abuse. This $10,000 amount is subject to adjustment for inflation. The definition of domestic abuse includes abuse of the individual account owner, the individual’s child or a member of the individual’s household. Such distributions may be repaid to the plan.
What about SIMPLE and SEP IRA Plans?
Small businesses can utilize SIMPLE and SEP IRA plans as retirement plans that are not as expensive and complicated to administer as 401(k) plans.
What are SIMPLE IRA Plans?
The SIMPLE IRA plan allows for both employer and employee contributions to be made. All employees may be allowed to participate in SIMPLE plans, or the employer may place some limitations on participation. Employers with no more than 100 employees may establish SIMPLE plans.
All those employees who are “reasonably expected” to earn at least $5000 in compensation in a tax year and who received at least $5000 in compensation from the employer in any two preceding years may elect to make salary reduction contributions to a SIMPLE plan. The employer may not have maintained another qualified plan during the plan year when contributions are made to the SIMPLE plan.
The maximum salary deferral amounts that may be contributed to a SIMPLE plan in 2023 is $15,500. An additional $3500 deferral amount may be made by those employees who are 50 or older. The employer generally must make a matching contribution of 3% of the employee’s compensation to the plan. Instead of making the matching contribution, the employer may make a nonelective contribution of 2% of compensation for each eligible employee with at least $5000 in compensation.
Explain SIMPLE Plan Distributions:
Withdrawals made by an employee within the first two years from the date the employee began participating in the plan; an additional 25% tax is due on the taxable portion of the withdrawal. The same IRA premature distribution tax exceptions apply to SIMPLE plans as for traditional IRAs. Withdrawals must begin by age 73, as they must for traditional IRAs.
Explain SEP IRA Plans:
Another form of IRA for small businesses is the SEP-IRA. Unlike SIMPLE plans, SEP plans do not allow for salary deferral contributions. Self-employed, sole proprietorships, partnerships and small businesses may set up SEPs. Generally, employers 50 or fewer employees utilize these plans, and larger companies establish 401(k) or other qualified plan that offers more flexibility to participants.
SEP plans must allow all employees who are over 21 or who have provided “service”, or work, in at least three of the immediately preceding five years to the employer. Employees covered by union or other collective bargaining plans or who earned less than $750 in annual compensation may be excluded from these plans.
Contributions to SEP plans are made by the employer and must be the same percentage of compensation for all eligible employees for that plan year. The maximum percentage of compensation that may be contributed is 25%. The employer does not have to make contributions each year to the plan. Contributions may be made up until the tax filing date of the year following the plan year for which they are being made.
