Here is a reason to enjoy a long retirement.
If you’re a retiree with a higher-than-average aversion to taxes and want to double down on financial security very late in life, you may be interested in a particular and highly specialized annuity. It’s called a Qualifying Longevity Annuity Contract (QLAC for short), which allows you to substantially delay the payment of required minimum distributions (RMDs) in a piece of your IRA.
Retirees have to start paying taxable RMDs at age 72 or 70 ½, depending on their age, taking a bite out of their savings whether they want to or not. Folks can put up to $135,000 of their IRA assets into a federal government-approved QLAC and avoid paying RMDs on this money until as late as age 85. Since most people don’t live many years beyond this, this can be a relatively substantial savings in taxes.
Is this worth it? It depends – but probably.
“The properties of a QLAC are wonderful for people who want to avoid at least part of their minimum distributions and make their IRAs last longer,” says one certified financial planner familiar with the product. “People tend to spend their RMDs. So a QLAC forces people—in a good way—to leave more money in their IRAs.”
Nonetheless, the fact is that QLACs — approved by the U.S. Treasury more than seven years ago – haven’t generated all that much interest. According to the Secure Retirement Institute, QLAC sales totaled only $1.9 billion in 2020, compared to $219 billion in total annuity sales. Many people don’t want to wait longer to retrieve retirement funds, even that increases their tax burden. In addition, QLAC returns are guaranteed but modest, also undermining their appeal.
To give you an idea of what a QLAC pays, let’s consider the case of a 65-year-old couple that puts $130,000 in one. Each spouse is a joint annuitant. If the couple waits until age 80 to begin receiving payments, it would pay out $19,713 per year (as long as either spouse is alive). If they wait until age 85, the maximum, that payment jumps to $33,408 per year.
Most QLAC buyers are 55+ and concerned about possibly outliving their savings. The maximum purchase age is typically 80. The government decided to introduce QLACs because people are living longer than ever and pensions have become relatively rare.
Choosing when to begin liquidating a QLAC depends on how many years you can live on the rest of your savings and how long you think you’re going to live, as uncertain as that can be. If you’re 65 and in poor health, you don’t want to wait until age 85 or even 75 to start receiving income payments. In fact, you may not be a good candidate for a QLAC at all. The date when payments start can often be changed, but only before payments have yet to be received.
Even if you’re healthy, QLACs aren’t free of downsides. The key drawback is the low fixed rate they pay, giving up the chance of higher growth via other means.
One way to manage this risk is to “ladder” QLACs by purchasing a series of smaller QLACs over several years, betting that payout rates might increase in the future. This makes sense especially today, given the current economic rebound. Even if rates don’t rise, the longer you want to buy a QLAC, the higher your payout, because your longevity has declined.
Despite the durability of QLAC and other annuities, you should check the financial rating of the issuing company. Very late in life, when healthcare typically drains more money from budgets, is usually the worst time to fall short on money. Consequently, you might even consider purchasing QLACs from more than one firm to spread the risk.
The bottom line is that these can be a helpful addition to your retirement plan if you’re worried about outliving your nest egg and like the idea of counting on a guaranteed income stream later in life. But the product isn’t right for everyone. So consult a financial adviser to make sure they’re right for you.
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