A Q & A with Martin J. Lombrano, AIF®, LPL Financial Advisor
What are you going to do with the money you have saved for retirement? One option is an annuity - a long-term retirement contract that can give you regular income over the course of your retirement rather than forcing you to manage a large lump sum.
The big difference between the old-time corporate pension plan and an annuity is that the amount you receive is entirely dependent upon how much you put into the annuity.
Understanding how these tax-deferred investment choices work - and the differences between a fixed and variable annuity - can be a complicated proposition for the lay investor. In the following article, we asked Martin J. Lombrano, AIF (CA Lic. #0828215) to address commonly asked questions to help our readership navigate the available options in deciding if an annuity is the right investment vehicle for their individual retirement needs:
Q: What is an annuity?
Martin J. Lombrano: An annuity is a tax deferred investment contract issued by and insurance company. In general, an annuity will have an owner of the contract, an annuitant or person on whose life the annuity will be paid and lastly a beneficiary or the person who will receive funds at death.
Q: What does an annuity do?
MJL: “When you purchase an annuity contract, your annuity assets will accumulate tax deferred until you start taking withdrawals in retirement. Distributions of earnings are taxed as ordinary income. Withdrawals taken prior to age 59 may be subject to a 10% federal income tax penalty.
Q: What kinds of annuities are there?
MJL: Annuities come in a few different varieties. The two main categories are fixed annuity and variable annuity. A fixed annuity may pay a fixed interest rate for a certain period of time and often times the interest rate is set at the beginning of the annuity contract period.
Q: Is it a good idea to buy annuities for my IRA or qualified plan?
MJL: Annuities for IRA or qualified accounts can be a good planning tool depending on the clients risk tolerance, time horizon and need for income. Since an annuity is already a tax deferred investment contract, IRA money inside of an annuity gains no tax advantages. However the annuity contract may have other investment and/or income benefits.
Q: Are there fees associated with a fixed annuity?
MJL: Yes. Most fees and expenses of a fixed annuity are factored into the stated annual percentage rate. Some fixed annuities may assess an annual contract fee. Be sure to read the contract carefully prior to making any financial decision.
Q: How long will I be able to receive income from an annuity?
MJL: Income from an annuity can be guaranteed by the insurance company for your entire life or for different periods of time the owner may pick when setting up income from the annuity as set forth in the contract. Guarantees are based on the claims paying ability of the issuing company.
Q: What is the primary difference between a qualified and a non-qualified annuity?
MJL: A qualified annuity is a contract funded with qualified or pre-tax money which has been deducted from current income. A non-qualified annuity is funded with after-tax money meaning no tax deduction has been taken on the money put into the contract
Q: Why are annuities issued by life insurance companies?
MJL: Annuities are issued by life insurance companies because of the fact they may offer a death benefit to a beneficiary of a contract or guarantee a lifetime income to the owner of an annuity contract.
Q: What is the primary difference between annuities and life insurance?
MJL: An annuity will generally payout at death the account value, a stepped-up death benefit value or the original principal deposited less any withdrawals prior to death of an annuitant. Life insurance pays the value of the policy at the time of your death.
Q: What primary factors influence annuity income?
MJL: Depending upon the clients need for income, how long they may want income to be paid out and the type of annuity they own all influence annuity income. Furthermore, annuities are generally considered income producing investments.
Q: Is an annuity appropriate if I plan to leave the money to my heirs?
MJL: Annuities are generally best used for income generating purposes and may not be ideal to leave to heirs or for legacy purposes. In my experience when the annuity owner does not use the contract for income and leaves it to the heirs it may create tax problem for the heirs. There may be ways to avoid this after death in the case of a non-qualified annuity but each situation is different and requires an specific expertise in annuity contracts.
Q: What tax must my beneficiaries or heirs pay if my annuity continues after my death?
MJL: In general, annuities adhere to the LIFO or Last In First Out method of accounting which generally means any gains in the annuity contract will come out first and be taxed as ordinary income as opposed to capital gain tax. There may be an opportunity to get partial tax advantaged income or death benefits if the right annuity planning is done. This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax advisor.
This material contains only general descriptions and is not a solicitation to sell any insurance product or security, nor is it intended as any financial or tax advice. For information about specific insurance needs or situations, contract your insurance agent. This article is intended to assist in educating you about insurance generally and not to provide personal service. They may not take into account your personal characteristics such as budget, assets, risk tolerance, family situation or activities which may affect the type of insurance that would be right for you. In addition, state insurance laws and insurance underwriting rules may affect available coverage and its costs. If you need more information or would like personal advice you should consult an insurance professional. You may also visit your state’s insurance department for more information. Please also ensure your biographical and broker/dealer information is here. Example: Martin Lombrano is a registered representative with, and securities offered through LPL Financial, Member FINRA/SIPC. or, from your website... Martin Lombrano is a Registered Representatives with, and securities and Advisory services offered through LPL Financial, a Registered Investment Advisor, Member FINRA & SIPC. Financial Planning offered through Pence Wealth Management, a Registered Investment Advisor and separate entity from LPL Financial.
Fixed annuities are long-term investment vehicles designed for retirement purposes. Gains from tax-deferred investments are taxable as ordinary income upon withdrawal. Guarantees are based on the claims paying ability of the issuing company. Withdrawals made prior to age 59 ½ are subject to a 10% IRS penalty tax and surrender charges may apply.
Variable Annuities are suitable for long-term investing, such as retirement investing. Withdrawals prior to age 59 ½ may be subject to tax penalties and surrender charges may apply. Variable annuities are subject to market risk and may lose value.