A Tax-Friendly Way to Get Income for Life

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Question:

I heard that you can use $130,000 in an IRA to buy a deferred-income annuity without having to pay taxes on the money. Have you come across this before?

Answer:

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That sounds like a Qualified Longevity Annuity Contract, or QLAC. In 2018, you can invest up to $130,000 within a traditional IRA (or 25% of the IRA balance, whichever is less) in this special kind of deferred-income annuity. You’re not taxed on the move, and the money you put into the annuity is not included when calculating your required minimum distributions from the IRA after you reach age 70½.

You don't avoid taxes on the money forever, though. The taxable portion of the money you used is still subject to taxes when you start receiving income from the annuity. But the tax bite will be delayed if you postpone receiving income from the QLAC until you’re in your seventies or eighties. (You’ll still have to take RMDs from the IRA money that you didn't roll into the QLAC.)

With a QLAC, you invest a lump sum years before you need the income—say, in your sixties—and decide when you want to start receiving the money, usually in your seventies or eighties. Payouts continue for the rest of your life. So the QLAC not only removes a chunk of money from your RMD calculation but also guarantees that you won’t outlive your money.

Decode Annuities to Find the Best Fit

For example, a 65-year-old man who invests $50,000 in a QLAC could receive about $11,116 per year for life starting at age 80, says Jerry Golden, founder of Go2Income, which compares payout rates for several insurers offering QLACs. The downside: If he dies just a few years after payouts begin, he may not receive as much as he invested—or he may receive nothing if he dies before payouts start.

Another option is a “life with cash refund” annuity. It provides a smaller payment per year, but it returns the balance of the investment to your beneficiary if you die before receiving at least as much as you invested. That option, in the above example, would reduce the annual payout to $9,215. You can run your numbers with the calculator at Go2Income.com.

For more information, see QLACs Can Deliver Late-In-Life Income.

As the "Ask Kim" columnist for Kiplinger's Personal Finance, Lankford receives hundreds of personal finance questions from readers every month. She is the author of Rescue Your Financial Life (McGraw-Hill, 2003), The Insurance Maze: How You Can Save Money on Insurance -- and Still Get the Coverage You Need (Kaplan, 2006), Kiplinger's Ask Kim for Money Smart Solutions (Kaplan, 2007) and The Kiplinger/BBB Personal Finance Guide for Military Families. She is frequently featured as a financial expert on television and radio, including NBC's Today Show, CNN, CNBC and National Public Radio.