In 2014, the Internal Revenue Service (IRS) and the Department of Treasury revised rules regarding RMDs (required minimum distributions). These rules may provide you with greater flexibility for a portion of your pre-tax assets (i.e. Traditional IRA), allowing you to delay taking income payments beyond the typical requirement at age 70½.
A QLAC is a deferred income annuity that allows income to begin beyond age 70½ without conflicting with RMD rules affecting qualified money, such as Traditional IRAs. QLACs provide the flexibility to defer the income start date up to age 85, and can only be funded with assets from a Traditional IRA, SEP IRA, or from an eligible employer-sponsored qualified plan — 401(k), 403(b), and governmental 457(b).
The value of the QLAC is excluded from the retirement account value when calculating your RMD withdrawal amount once you reach age 70½. The maximum eligible for deposit to a QLAC is 25% of all qualified account balances or $125,000 – whichever is less.
With a QLAC, you shift the risk of outliving your income to the insurer, who promises to pay you a certain amount of income for a period of time (or the rest of your life). The insurer also assumes your interest and market risk. Even if the market and interest rates go down significantly during your deferral period, you still get the same guaranteed income stream.
QLACs offer a number of positive benefits:
- During deferral, the QLAC balance is not included in RMD calculations, reducing the amount of required distributions and income tax associated with the distributions.
- The amount and starting date of future QLAC distributions is predetermined, allowing a retiree to more accurately calculate how long income from retirement savings may need to last.
- A designated beneficiary (spouse or non-spouse) may receive the remaining guaranteed income benefits if the original QLAC owner dies during the income payment period.
- A return of premium feature may be offered that is payable before or after the annuity income payment start date (prior to age 85).
- Additional income payment, return of premium, and death benefit features may be offered to suit the QLAC owner’s needs.
There are potential drawbacks with QLACs that should be considered:
- QLACs are not liquid and are generally irrevocable.
- QLACs value typically does not increase with inflation.
- If the QLAC owner dies prior to age 85 (or the income payment start date), the designated beneficiary will receive only the original amount deposited to the QLAC policy – which will become fully taxable as a lump sum death benefit.