Is Your Non-qualified Annuity Where It Needs To Be?

With the passage of the Pension Protection Act (PPA), new tax advantages for annuities are coming into effect. Beginning January 1, 2010, cash value withdrawals from annuities with specific provisions to pay for long-term care expenses are no longer income taxable.

Many individuals who own an annuity consider it to be their “rainy day” fund. Often, that “rainy day” can mean unexpected health care or long term care costs. However, the advantages of the Pension Protection Act apply only to specific annuities built with provisions to obtain these new tax advantages. For many, it may mean their annuity is not properly positioned when that “rainy day” comes.

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Benefiting from the Pension Protection Act

A Hypothetical Case-Study Example

Client: Marjorie Jones, age 71

Status: Married to husband Ned, age 71

Situation: Marjorie is owner/annuitant of a non-qualified single premium deferred annuity out of surrender charges purchased in 1997.  The current cash value is $103,500 (the cost basis/premium paid was $65,000). Their annuity has not been used for income, and based on cash flow projections, will not be required for income. The couple has no long term care coverage, but has identified this annuity as a source should expenses be incurred.

OPTION 1: Keep the annuity where it is

PROS

• No surrender charges apply for withdrawals

CONS

• Withdrawals for any purpose would be taxable to extent of gain in contract

OPTION 2: Move to Annuity Care®

PROS

• Can withdraw money surrender charge free for qualifying long term care expenses

• Using eligible person provision, can add Ned to policy for long term care purposes

• Money withdrawn for qualifying long term care expenses is tax-free as a reduction of basis

• 10 percent free withdrawal provision for non-LTC withdrawals

• Can purchase optional extended LTC provision with guaranteed premiums

CONS

• New contract with new surrender charge period

• Have to be in good or fair health to qualify (medically underwritten)

 

WITHDRAWAL EXAMPLE 1: Short LTC Claim Situation

What if Marjorie (or Ned) had a $3,000 per month LTC expense for six months starting in March 2010? How would this impact:

• Their existing annuity — Any amount of money that comes out of their existing annuity, regardless of purpose, would be taxable to the extent of gain in the contract. Since they have gain of more than $18,000, the entire amount withdrawn would be taxable.

• Annuity Care — If the expenses are eligible for LTC payment under the Annuity Care contract, it could be withdrawn without having to pay taxes on the $18,000. This, and any future LTC withdrawals, would not be subject to taxation.

 

WITHDRAWAL EXAMPLE 2: Longer LTC claim situation

What if Marjorie (or Ned) had a $3,000 per month LTC expense for three years (36 months) starting in March 2010? How would this impact:

• Their existing annuity — Any amount of money that comes out of their existing annuity, regardless of purpose, would be taxable to the extent of gain in the contract. The money withdrawn would be taxable to the extent of gain, up to the cost basis of $65,000. So, at least $43,000 would be taxable to the Jones ($3,000 x 36 months = $108,000 – $65,000 basis = $43,000 taxable).

• Annuity Care — If the expenses are eligible for LTC payment under the Annuity Care contract, it could be withdrawn without having to pay taxes on the $108,000. This, and any future, LTC withdrawals would not be subject to taxation.

It is always important to review your overall financial picture before reallocating existing assets. However, if you have an old annuity that is not accessible for long term care expenses, or cannot provide you with tax-advantaged access to your money for those expenses, it could be time to ask your insurance representative about this.

Notes: Marjorie and Ned are fictitious. The specifics of all cases are hypothetical and were used for illustration purposes only.

Benefiting from the Pension Protection Act with Annuity Care® II

A Hypothetical Case Study Example

Hypothetical client: Edward Beck, age 67

Status: Married to wife Denise, age 65

Situation: Edward is the owner/annuitant of a non-qualified single premium deferred annuity out of its surrender charge schedule. The current cash value is $100,000 with a cost basis of $60,000. The annuity has not been used for income, and based upon current cash flow projections, will not be required for income in the future. Edward and Denise currently have no long term care coverage, but have identified this annuity as a funding source should expenses be incurred.

OPTION 1: Keep the annuity where it is

PROS

• No surrender charges apply for withdrawals

CONS

• Withdrawals for any purpose are taxable to extent of gain in contract

• No benefits for long term care beyond the current cash value

OPTION 2: Move to Annuity Care II

PROS

• Can withdraw money surrender charge free for qualifying long term care expenses (subject to monthly limits)

• Using the Eligible Person provisions, Denise can be added to the policy and made eligible for long term care benefits

• Money withdrawn for qualifying long term care expenses is income tax-free thanks to the provisions of the Pension Protection Act

• Benefits available beyond the exhaustion of the cash value

• 3, 6 or 9 additional years of coverage available (depending upon applicant age) and paid with convenient deductions from the annuity value

CONS

• New contract with a new surrender charge schedule

• Have to be in good or fair health to qualify (medically underwritten)

 

EXAMPLE 1: A short long term care need

What if Edward or Denise had a $3,000 per month long term care need for a period of six months? How would this impact:

1. Their existing annuity

Any amount of money withdrawn from the existing annuity, regardless of purpose, would be taxable to the extent of gain in the contract. Since they have gain of more than $18,000, the entire amount withdrawn for long term care expenses would be taxable.

2. Annuity Care II

If the long term care expenses are eligible for benefits under the Annuity Care II contract, it could be withdrawn without having to pay taxes on the $18,000.  This and any future long term care withdrawals would not be subject to taxation.

 

EXAMPLE 2: A multi-year long term care need

What if Edward or Denise had a $3,000 per month long term care need for a period of five years? How would this impact:

1. Their existing annuity

A five–year long term care need at $3,000 per month would total $180,000. This means that after exhaustion of the annuity, Edward and Denise would have to look to other assets to continue paying the long term care expenses. In addition, any amount of money that is withdrawn from the existing annuity, regardless of purpose, would be taxable to the extent of gain in the contract. With a cost basis of $60,000, Edward and Denise would incur $40,000 of taxable income.

2. Annuity Care II

With a built-in Continuation of Benefits, Annuity Care II can continue to provide long term care benefits after the annuity value is exhausted. Edward and Denise would not need to liquidate other assets to pay for care expenses. In addition, the expenses eligible for benefits under the Annuity Care II contract can be withdrawn without having to pay taxes, regardless of cost basis.

It is always important to review your overall financial picture before reallocating existing assets. However, if you have an old annuity that is not accessible for long term care expenses, or cannot provide you with tax-advantaged access to your money for those expenses, it could be time to ask your insurance representative about it.

Notes: Edward and Denise are fictitious. The specifics of all cases are hypothetical and were used for illustration purposes only.

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