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How Are Variable Annuities Different When Held in a Qualified Account?

There are some basic differences when a VA is held inside a qualified account, meaning an IRA (traditional or Roth) or employer plan.

Contract Titling Difference: A non-qualified contract can be held by two owners or a trust, whereas a VA held in a qualified account must have an individual owner who is also named as the annuitant. (Note that on the Lifetime GMWB, joint spousal coverage can be achieved on an individual retirement account.)

Product Differences: Often, a VA contract or benefit held in a qualified account has a different issue age. For example, one lifetime income rider must be purchased by age 77 when held in a qualified account, versus age 80 in a non-qualified account. In a few cases, fees and expenses are different. One variable annuity contract charges an extra 20 basis points when held in a qualified account. One carrier waives the annual account fee for qualified accounts with a minimum balance of $20,000. In one case, the VA product itself was designed exclusively as a qualified contract. For one carrier, an owner of a qualified contract has the option to terminate a living benefit, whereas non-qualified contracts cannot terminate a benefit once elected. Select carriers increase the withdrawal percentage to equal the RMD. Other living benefits treat RMDs favorably.

Tax Treatment—Different IRS limits on contributions: Non-qualified VAs do not have IRS restrictions on annual contributions, while qualified VAs are limited by the $5,000 annual contribution ceiling. 1) RMD requirements: Qualified VAs need to start required minimum withdrawals at age 70 ½ (except if the VA is held in a Roth IRA). Non-qualified contracts do not have RMD requirements. 2) RMD calculation is different: When calculating the RMD, the carrier factors in the present value of any enhanced death benefit and living benefit. As a result, RMDs can seriously erode account value. 3) Treatment of annuity payments: There is no exclusion ratio on payouts from a qualified VA, since no taxes have been paid on any of the investment principal. So 100% of the withdrawals are taxed as ordinary income. 4) Acceptance of rollovers: Proceeds from a qualified plan rollover are eligible to be rolled over directly to a qualified VA without taxation. Conversely, qualified plan rollovers cannot be placed in a non-qualified VA contract without taxes being owed.

Advisor Tips: When a variable annuity is held in a qualified account, name the owner and the annuitant as the same person. Once the owner passes away, the death benefit will pay to the primary beneficiary. When a living benefit is held inside a qualified account, an RMD may erode the account value quicker unless the rider is “RMD friendly,” meaning an RMD above the allowable withdrawal percentage is not considered an excess withdrawal. Be aware of how an RMD affects the benefit base, especially when using a GMIB rider, most of which have no special treatment of RMD withdrawals. Look for “RMD friendly” living benefits.

The examples presented herein are for informational purposes only. They are not representative of any specific annuity and do not constitute investment advice. Annuities are suitable for long-term investing, particularly retirement savings. Withdrawal of earnings will be subject to ordinary income tax and, if taken prior to age 59½, may be subject to a 10% federal tax penalty. Investing in a variable annuity within a tax-deferred account will provide no additional tax savings and, therefore, should be considered only for other benefits that may be provided by the annuity or associated riders. Additional fees apply for living-benefit options. Investment restrictions may also apply for all living-benefit options. Violating the terms and conditions of the annuity contract may void guarantees. Read your prospectus carefully for all the fees and expenses that may apply to your variable annuity contract. It is also recommended that you consult with a financial advisor and tax advisor before purchasing an annuity.