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  • Barry Boscoe

Advantages of Fixed Income Annuities in Your Qualified Plan

When investing, one must decide whether to hold the investment in their qualified retirement plan, i.e. IRA or 401k vs. holding it outside of the qualified plan. Part of the decision making process has to do with the varying income tax consequences and how it may affect the longevity of that particular investment, as well as the overall portfolio. When deciding which investment to hold in either a non-retirement account or retirement account, one must think about the income tax ramifications. Tax deductions are available when contributing to a retirement plan but, are not as friendly when withdrawing as a non-retirement account might be. Some of the income tax consequences with regard to a retirement plan are: 1) full taxation on the withdrawal, with a potential exclusion for non-deductible contributions and Roth IRA distributions. 2) compliance with the IRS required minimum distributions. With this in mind, an annuity is an often overlooked investment that just might be a natural fit in the right circumstances. A fixed income annuity vs. a variable annuity can provide a protected lifetime payout. Fixed income annuities come in two flavors, differentiated by the timing of their payments: an immediate annuity or a deferred annuity. Immediate annuities, sometimes referred to as SPIA’s, (single premium immediate annuity) may begin distributions one month after purchase when a monthly payout option is elected. Deferred fixed income annuities may begin at least one year after the date of purchase, but in most cases usually begin much later. There are two types of deferred fixed income annuities: 1) single premium deferred annuities (SPDA’s) purchased with a lump sum or, a flexible premium deferred annuity (FPDA’s) which allow multiple purchases. There are two types of deferred fixed income annuities: Deferred Income Annuity (DIA) or Fixed Index Annuity (FIA) which may come with an income rider. Both of these types of annuities offer lifetime income. The differences and nuances between an FIA and DIA will be covered in a future article. All three, SPIA’s, DIA’s and FIA’s, are suitable for retirement plan investments. The advantages of considering a fixed income annuity for some portion of your retirement plans are as follows:

  1. Sustainable protected lifetime income.

  2. One of the main objectives of a retirement plan is to provide a future income stream. The income stream, or pension allows the comfort of knowing that the income will be received uninterrupted for lifetime, including your spouse if desired. This income may cover a portion of your fixed and even discretionary expenses for the rest of your life, without concern of any reduction.

  3. Required minimum distribution rule.

  4. The IRS requires a retirement plan to distribute a required minimum distribution (RMD) each year, beginning April 1st of the year following the year you turn 70 ½. The purpose of the RMD is to liquidate the account through annual distributions. Fixed income annuities comply nicely with the IRS’ regulations structuring payments, so they are completely distributed over the life expectancy of the owner and the owner’s beneficiary.

  5. Do not need to sell investments when the market is down, in order to comply with RMD. All fixed income annuities provide either a known or easily calculated amount of periodic payments. You will automatically receive these payments for the rest of your life, regardless of market conditions. This income does not need to be re-calculated and you do not need to worry about receiving the required minimum distribution amount, as you do with other types of investments, such as securities, which must be sold in order to payout the RMD if sufficient cash is not available. This could create a loss if the market happens to be down at the time your RMD is required.

  6. Ability to target a specific income.

  7. It is possible to calculate a specific amount of income desired over one’s lifetime through the use of a fixed income annuity. This targeted amount, will in essence, create a pension plan to supplement social security or any other income streams. By utilizing an annuity, often times you are able to generate greater cash flow than the 4% rule would allow, thus increasing your income streams over your lifetime without concern of reduction, due to market volatility or loss.

  8. Lessen exposure to market volatility and declines.

  9. One of the great advantages of a fixed income annuity is the mitigation in the decline of your retirement plan, due to a stock market downturn. All three types of the fixed income annuities are not subject to any stock market risks.

  10. Ability to sleep better at night.

  11. Upon reaching retirement, many individuals look to simplify their financial life.

  12. Annuities can provide a reduced risk, known lifetime protected income stream and, the elimination or reduction of investment management fees.

As we age, the ability to process new information or react appropriately to market events is a major cause of concern to retirees. A simple way of reducing this risk is through the use of annuities in your retirement plan. Even though fixed income annuities can be a super fit to one’s retirement plan, it is important to seek out a specialist who can help you plan and implement a fixed income annuity strategy. Some of the issues that must be reviewed in the due diligence process are:

  • The financial stability of the life insurance company

  • Deterring costs associated with the investment

  • These costs can include surrender charges, and income rider fee’s

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