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Deferred Income Annuities and IRAs


The new Treasury regulation on “longevity insurance” does more than promote late-life annuities. By removing a required minimum distribution barrier, it makes retirement income planning easier for middle-class people whose savings are mainly in qualified plans or IRAs.
The new Treasury regulation that relaxes the required minimum distribution (RMD) rules for qualified deferred income annuities (DIAs) was not exactly the regulation that many observers had expected. The regulation, announced in July of 2014, was broader and potentially much more useful.

What’s more, the DIAs can offer return-of-premium death benefit options.

We expected the new regulation to allow near-retirees or retirees to use some of their IRA or 401(k) money to buy so-called “longevity insurance”—life-only annuities whose payments began no earlier than age 80 to 85. Instead, it allows people to spend up to $125,000 on DIAs whose payments don’t have to begin until age 85. What’s more, the DIAs can offer return-of-premium death benefit options.
In short, qualified DIAs sold after July 2, 2014 (the regulation isn’t retroactive) will offer much more flexibility. Contract owners won’t have to start taking income from them by age 70½, when RMDs from their other tax-deferred accounts must begin. (DIAs purchased with after-tax money aren’t subject to RMDs, so they aren’t affected by the new regulation.)

In short, qualified DIAs sold after July 2, 2014 (the regulation isn’t retroactive) will offer much more flexibility.

For instance, a 66-year-old with substantial savings in a 401(k) or rollover IRA can now put 25% of that savings (up to $125,000) in a DIA with a ten-year deferral and postpone taxable distributions until age 76. (This type of DIA will be henceforth known as a Qualifying Longevity Annuity Contract, or QLAC—a mouth-filling new acronym that embodies their kinship with QDIAs. Both are blessed for use as options in qualified retirement plans.)
That’s fairly good news, especially at a time when people are expected to work longer, live longer, and neglect to think about structuring their retirement finances until they reach their mid-60s.

An Idea Evolves

We now have a regulation that’s aligned with the reality of the marketplace, instead of one that merely tries to create a market for an idealized product that nobody wanted. Moshe Milevsky, the York University annuity expert and consultant who was close to some of these discussions, reminded Annuity FYI that nothing in the new rule prevents people from buying pure longevity insurance.
“If you want, you can still purchase the 100% pure ALDA [advanced life deferred annuity] that starts payments at age 80 or 85,” he wrote in an e-mail. “What they [the Treasury department] are allowing is for someone to add [death benefit] riders and still qualify for QLAC treatment—which then opens the market to a much wider set of products as well (e.g., the DIA.) Basically, the intention was to increase the size of the market beyond what was allowed in the proposed regulations, but not too wide.
“Initially my position was that a QLAC should offer no death benefits, no return of premium, and no ability to turn-on income early, so that it could offer the highest amount of mortality credits possible. That said, I can understand the pressure from industry groups and practitioners who claimed that nobody—other than a few economists—would want to sell or buy these things. There was a need to compromise and allow for features that would make the product easier to sell,” he wrote.

The Death Benefit Mattered

Besides the death benefit, the retirement industry also requested and got from Treasury a softening of the proposed rule that over-contributions to a DIA would nullify the contract. According to the final regulations, over-contributions can be corrected.
But the industry didn’t get everything it wanted from Treasury. Although the final regulations allow as much as $125,000 to be spent on a QLAC (up from $100,000 in the proposal), Treasury didn’t accept the industry argument that the 25% cap on deferral made it tough for someone with, say, $200,000 in qualified savings, to buy a meaningful income stream.
Cynthia Mallett, a vice president at MetLife, has been working for several years to get deferred income annuities approved as options in 401(k) plans. She saw the new regulation as an important step toward that goal.

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