What are the Benefits of an Annuity?
What are the Benefits of an Annuity?
We always say that there is no single retirement planning solution that works for everyone. Each client is unique, and their decisions regarding retirement will depend upon many different factors which vary from one person to the next. However, there are certainly things we must all consider when planning for the future. One of those things is how income taxes will affect us in retirement.
Depending upon your situation, an annuity can provide a solution for income tax quandaries specifically related to retirement planning. Different types of annuities can confer different tax benefits, so it’s important to at least understand two basic types of annuities.
Qualified annuities are usually purchased with pre-tax money. For example, your employer’s sponsored retirement plan, or your IRA, might offer you this opportunity. Because you purchased the annuity with pre-tax money, the payments you receive from the contract later will be taxed and part of your annual income. These annuities can be helpful for many reasons, but you won’t gain any additional tax benefits beyond those you’ve already gained through the retirement plan or IRA.
A non-qualified annuity is purchased with after-tax dollars. You might decide to access this type of annuity on your own, outside of your retirement plan or IRA. Since these annuity contracts are purchased with after-tax money, only the earnings on the funds within the contract itself will be taxed later.
If you choose a non-qualified annuity, taxes will be calculated on a “Last In, First Out” basis (LIFO, for short). Your withdrawals are first taken from accrued interest, and will be taxed according to your regular income bracket. After all accumulated interest has been paid out, all future distributions will be tax-free. So, a non-qualified annuity might be a way to establish some (mostly) untaxed income (at least in your later years of the contract).
Annuities are complicated insurance contracts, and there is far more you should know about them than we can share in a single blog! Before diving into such an important decision, give us a call to discuss it in more detail. We can help you understand all of the different types of annuities, the benefits and potential drawbacks of each, and how to incorporate an annuity into your retirement plan if you choose to do so.