Q: When are taxes paid if 403(b) money is converted to a QLAC? Do they always have a death benefit that pays out the original amount, or what happens at death? Thanks!
A: QLACs, or "qualified longevity annuity contracts," are designed to reassure retirees they won't run out of money in old age.
It can be funded only with assets from a traditional IRA or employer-sponsored qualified plan, such as a 401(k) and 403(b). Once the guaranteed stream of income starts, the payments continue for the rest of your life. The basic idea is to buy the longevity annuity around, say, age 65 or 70 with a lump sum. The income stream doesn't start until much later, perhaps 80 or 85. The QLAC is excluded from the required minimum distribution (RMD) calculation at age 70½. You must start drawing on the account by age 85, paying taxes on the withdrawals. Only 25 percent of retirement accounts can be invested into a QLAC or the cumulative dollar amount invested into QLACs can't exceed $125,000, whichever is less.
There are trade-offs. Among the advantages: The QLAC keeps some retirement savings tax sheltered for a longer period because of the RMD exception. There is reassurance knowing you've reduced the need to manage a portfolio later in life. Most importantly, you can't outlive this portion of your assets.
What are some drawbacks? Like all annuities, the big issue is giving up control of the money. "An annuity is risk-reducing if the only risk you face is additional longevity. In fact, other risks may be more serious," writes Arnold Kling, entrepreneur, economist and teacher. "You could easily find yourself needing to take out a loan if your savings are tied up in an annuity and your spouse requires a home health aide."
You can purchase a limited number of riders on the policy, such as inflation protection, survivor benefits and "return of premium" death benefit for heirs. The price for each of these riders is a lower income payment. You also own an annuity with hedged against inflation — Social Security. One question to ask: Should you buy a QLAC, or does it make better financial sense to boost Social Security payout by waiting to file until age 70?
I'm glad the investment option exists for retirement savings accounts. I expect it will improve with time. But I don't see most near-retirees purchasing it and with good reason.
Chris Farrell is senior economics contributor for "Marketplace" and commentator at Minnesota Public Radio.