Annuity Maximization Strategies

  • Originally published December 20, 2011 , last updated May 25, 2016
Annuity Maximization Strategies

First the good news: Demand for annuities has spiked in recent years as consumers begin to recognize their value as a safe, tax-deferred savings option.

Now the bad news: About 80% of annuities end up being inherited.

With their ability to grow money tax-deferred and generate a guaranteed income stream, annuities are an excellent retirement income vehicle. But they are usually not the best vehicle for wealth transfer because when the policyholder dies their annuity will be subject to a variety of taxes. In fact, depending on the size of the policyholder’s estate, funds in their annuity could be subject to both estate and income taxes, substantially reducing the legacy they leave their loved ones.

So, if you find yourself with a client who has a deferred annuity they don't plan to use for income, you may be able to help them make the most of those dollars by using the Annuity Maximization strategy below. Basically, Annuity Maximization is a fancy term for leveraging the assets from a deferred annuity to fund an Irrevocable Life Insurance Trust (ILIT). The ILIT then purchases permanent life insurance that will pass to policyholder’s heirs tax free.

Case Example: Exchange the client’s deferred annuity for a Single-Premium Immediate Annuity (SPIA) and use the resulting income stream to pay for permanent life insurance in an ILIT.

Let’s look at the example of John, who is 65 years old and has built an estate worth $4.5 million. He has $1 million in an annuity that he's not currently using for income. Let’s look at two scenarios: One where he leaves the money in the annuity, and another where he leverages his annuity to pay for a permanent life insurance policy.

Planning Assumptions:

65-year-old male (preferred non-smoker)
Current Estate: $4.5 million
Estate Tax Rate: 45%
Federal Income Tax Rate: 35%
Beneficiary’s Federal Income Tax Rate: 35%
Life insurance policy owned by ILIT

Scenario 1: John continues to defer the annuity and it passes to his heirs 10 years later when he dies.

Current value of annuity: $1,000,000
Value in 10 years: $1,480,244
Assumed growth rate: 4%
Estate Taxes owed: $666,110
Income Taxes due: $168,085
Net to the beneficiary: $615,812
Percentage lost to taxes: 58.40%

Scenario 2: John exchanges his deferred annuity for a SPIA

Current value of annuity: $1,000,000
Annual Withdrawals from annuity: $123,456
Annual life insurance premiums (10 years): $91,344
Death Benefit: $2,647,296
Net to Beneficiary: $2,647,296
Percentage Lost to Taxes: 0%

Looking at the example above, it’s difficult to ignore the value of Annuity Maximization as a strategy to help your clients make the most of their annuity dollars. For more information on Annuity Maximization as a sales concept call an SMS Marketer at 1-877-645-4939.