After a long, hard struggle, millions of Americans are just about to reach the promised land of retirement–a time when they can sit back, relax, and let their accumulated investments and Social Security benefits support them for the balance of their lives. Or so they thought. Forget about the horror stories of Social Security being significantly diminished or disappearing altogether. Let’s assume, for the moment, that Social Security continues on its merry way for the next few decades. How many Americans do you think are aware that as much as 85% of their Social Security benefit is subject to income tax, and that part of their potential future tax problem will be caused by the earnings on their investments? The answer is short and sobering: Very few.
To prove the veracity of this lack of awareness, try asking your clients the following questions:
1. How much are you presently receiving in Social Security?
2. Do you know how much you are actually paying in income tax on that benefit?
3. Are you earning any income from your investments?
4. Are you investing in tax-exempt municipal bonds? If are investing in tax-exempt munis, have you received any income from them?
5. Has your advisor ever done a tax liability calculation for you?
John D. Rockefeller had a saying, “Why pay taxes on money that you don’t need?” Granted, sheltering Rockefeller’s surplus could generate full-time work for any multinational accounting firm, but even senior citizens with a fraction of the legendary oilman’s financial empire still can afford the same tax-deferred treatment for their money. In fact, the threefold manner in which a fixed annuity can defer taxes is matched only by its ability to triple compound the interest.
There are at least three legal ways to accumulate money in this world: Win it, make it, and earn interest. Inheriting money could be a fourth, but this article isn’t going to get morbid. Once your clients have accumulated wealth, their next logical course of action is to attempt to protect it and, we hope, earn some interest in the process. Fixed annuities have been an excellent vehicle for protecting investors not only from stock market dips, but also from the Internal Revenue Service. While a senior client’s money is safely out of the government’s reach, via the 1099 form, it’s also earning interest upon interest upon interest.
The compounding advantages that tax-deferred annuities give to their policyholders include interest on principal, interest on interest they have received in previous years, and interest on the money that is not being paid out in state and federal income taxes each year. While your clients’ money is earning “triple-time,” it’s also being deferred because fixed annuities can defer state and federal taxes while possibly eliminating taxation on their Social Security benefits altogether.
Never Stop Planning
Most people spend a lifetime saving and investing for their retirement and never spend any time planning during their retirement. The consequence of not planning during retirement is most commonly the payment of unnecessary income taxes, resulting in the loss of what could be a full retirement income check or two over the course of the year.
Many people are not even aware of the income taxation on their Social Security benefits, yet according to the U.S. House Ways and Means Committee 2003 Green Book, approximately 15.5 million Social Security recipients paid $19 billion in taxes on their Social Security benefits. That is not to say that all people fall into this income tax situation, since many don’t, but the only important question is whether your clients are in that situation.