Basics of Longevity Annuities

So-called “longevity” annuities—contracts that you might buy at age 65 but wouldn’t receive payments from until and unless you reach, say, age 85—are perhaps the cheapest way for people to insure themselves against the risk of living to age 90 or 95 and running out of money along the way.

That hasn’t made them popular, however. One reason for low sales is that the tax rules have discouraged them. The rules say that at age 70½, owners of qualified accounts—tax-deferred 401(k)s and IRAs, for instance—must move a certain amount of the qualified money out of the accounts each year and pay ordinary income tax on the withdrawal. These are called “required minimum distributions.” In the past, if people put qualified money into a longevity annuity, they wouldn’t be able to comply because the money is locked up until they reach, for instance, age 85.

In February, the U.S. Treasury Department issued proposed regulations to remove that obstacle. Under the new rules, as long as a person puts no more than 25% of their qualified money (up to $100,000) in a longevity annuity, then the money won’t count toward the base on which requirement minimum distributions are calculated. The income payments must also start no later than age 85.

The annuity would have to be a pure “longevity” annuity, the government stipulated. In other words, the contract could not feature a cash-out option or death benefit that would give the buyer (or his beneficiaries) part of the money back if the buyer died before age 85.

The new regulations will allow employers to begin offering longevity annuities as an investment option in retirement plans, thus allowing them to contribute gradually to a longevity annuity during their working years instead of paying a lump sum at retirement.

At current rates, a 60-year-old man might pay about $32,000 for a longevity annuity that pays an income of $24,000 a year starting if and when he reaches age 85.

If your health is poor or you truly don’t think you’ll live well past age 85, a longevity annuity might be a terrible bet. But if you think there’s a strong chance that you will live 90 or 100, a longevity annuity can be a sensible alternative to hoarding money against the possibility that you might live that long.

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