Omega Files

TAX DEFERRAL IN THE SALES PROCESS

There is little doubt that tax deferral is an important selling point for annuities. A Gallup Organization study showed that tax deferral is one of several important reasons that individuals buy nonqualified annuities.

74% 0f the owners of non-qualified annuity contracts believe that the government should give tax incentives to encourage people to save. Those under age 64 are more likely than those who are older to believe that the government should give incentives to encourage people to safe -81% of those under age 64, compared to 69% if those older than age 64.

82% of the owners of non-qualified (NQ) annuities report that they have saved more money than they would have if the tax advantage of an annuity were not available. 88% report that they try not to withdraw any money from their annuity before they retire because they would have to pay tax on the money withdrawn – this percentage of people that are trying not to withdraw has decreased by 5% since 1999.

TAX DEFERRAL VS LACK OF STEPPED-UP BASIS AT DEATH

One of the disadvantages of tax deferral on earnings is that deferred annuity income will be taxed at death. However, if taxes can be deferred long enough – such as 5 years or more – that would usually offset the lack of step-up at death. It should always be remembered that annuities are being used to ultimately provide retirement income, with payments taken periodically over a number of years. This is discussed in more detail in Chapter Four.

WITHDRAWAL OPTIONS

Receiving the funds from an annuity, either fixed-rate or variable, is a double-edged sword. The owner can always take out part or all of his/her money at any time. However, any withdrawal may be subject to a penalty. Note that withdrawal options may be different for those over age 65 as discussed later in this text.

Generally, an annuity will allow withdrawals of up to 10 percent per year without any penalty or other cost. The “free” withdrawal is usually based on a percentage of the principal (not the current value). If, for example, an annuity owner invests $25,000 into an annuity, and then later adds another $25,000, the owner may withdraw up to $5,000 every year, without penalty. Even with investment growth, this would be the maximum that they could withdraw without penalty. However, some annuities do allow a free withdrawal which is based upon the greater of (a) the current value, or (b) the principal contribution(s).

The contracts must be read carefully, as some companies will allow withdrawals of up to 15% per year, and others will allow free withdrawals of the growth at any time – or based upon the current value of the annuity (principal plus growth).

In respect to the withdrawals, recent statistics indicate that nearly three/fourths of those who invest in annuities, never take any money out of the annuities. It should also be kept in mind that those restrictions on withdrawals eventually disappear.

Those restrictions on withdrawals, usually lasting about 5 to 7 years, do not apply to certain no-load annuities. A “true” no-load annuity will usually allow withdrawals of any amount, at any time, without cost or penalty.

These restrictions do not mean that the owner cannot take out more than the specified amount – such as 10% – but if funds are taken out, a penalty will apply. The amount of the penalty depends upon the type of annuity and the insurer.



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