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House Panel Approves Annuity/LTC Combo

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But provision in massive pension reform bill exacts a price


The life insurance industry’s ability to market a long term care product that features inside buildup cleared its first legislative hurdle last week–but at a price.

The House Ways and Means Committee passed, by 23-17, legislation enabling insurers to market a “combination insurance product” that allows annuities to include riders for LTC coverage.

The provision was included in H.R. 2830, the Pension Product Act of 2005. House action could come as early as this week.

But the price the industry unexpectedly paid for its victory was an added cost for the product through a decision by tax writers to treat the LTC component of the product as life insurance, raising the deferred acquisition cost to 7.7%, instead of the 1.75% DAC rate charged for an annuity product.

However, the bill does substantially increase the flexibility provided for customers of annuities.

While the insurance industry was generally supportive, and will likely lobby now just to get more favorable tax treatment for the new combo product, employers would only diplomatically state that the proposed reforms to the defined benefit pension plan system mandated under the bill constituted “a good first step.”

Other provisions sought by the insurance industry in the bill include incentives for employers to allow automatic enrollment of new employees in 401(k) plans and to allow employees access to professional investment advice.

Under the proposed legislation, fiduciary safeguards will be created to protect workers from potential conflicts of interest.

The legislation passed by the Ways and Means panel last week also extends to 2010 the annual contribution limits for IRAs and qualified pensions first enacted by Congress in 2001′s tax-cut legislation.

It also extends provisions in the 2001 law creating additional “catch-up” contributions for individuals 50 and older, as well as incentives created under the 2001 law for small employers to offer pension plans.

For health care insurers, one provision of the bill would allow employees to roll over each year up to $500 of unused funds in their flexible spending accounts. These unused funds can be put in another FSA or in a health savings account (HSA).

Under the LTC rider provision approved by the committee, insurance companies will not be able to amortize the LTC portion in the combo product at the rate they currently otherwise could for LTC even though the LTC portion is a “known number,” according to one industry official.

Tax treatment for insurers booking annuities is contained in Section 848 of the IRS Code, lawyers said. This provision requires an insurance company to capitalize a percentage of the premiums it receives for a contract, 1.75% for annuities and 7.7% for life insurance, and amortize the amount over 10 years. As a result, the company cannot immediately deduct its acquisition costs and must deduct the costs ratably over a period of years thus increasing its tax in the year of policy acquisition.

Under the legislation as approved by the panel, premiums paid for the combo product will not be allowed to be deducted as medical expenses. But tax-free conversions of existing life, annuity and LTC products into annuities with LTC riders will be permitted.

But the bill faces huge problems in being enacted this year because Congress is in disarray and also because a similar Senate bill is being bottled up at the request of employers and unions concerned that the defined benefit provisions in it are so stringent that enactment of the bill could lead to the demise of the defined benefit plan.

However, the mere fact that the Ways and Means Committee, regarded as the primary tax-writing body of Congress, has included such a provision in a bill is a giant first step. Whether it passes this year or not, it will now likely continue to be debated by congressional tax writers until ultimately enacted.

“We support the retirement security legislation passed by the House Ways and Means Committee,” said Jack Dolan, a spokesman for the American Council of Life Insurers. “It contains a variety of provisions that will increase the ability of taxpayers to save for their retirement and protect their families. A key provision for life insurers will make long term care insurance more accessible.

“It does this by changing the tax code to allow life insurance or annuity policies to be offered in combination with long term care insurance,” Dolan continued. “Chairman Thomas and his panel are to be commended for this innovative approach to addressing the nation’s growing long term care crisis.”

James Klein, president of the American Benefits Council, said the language in the bill “represents progress in the effort to reform funding rules for defined benefit plans.”

However, Klein said, “the legislation still does not satisfy the needs of defined benefit plan sponsors, who must have flexibility and predictability in the funding rules if they are to stay in the system.”

The bill contains “some good features and some that give reason for concern,” including the lack of sufficient transition time for employers to comply–though it is better than other proposals in this regard, Klein said.

“Congress and the President must understand that legislation of this magnitude should only be adopted with an adequate transition period before it takes effect,” Klein said. “We look forward to the opportunity to improve H.R. 2830 as it moves through the process.”

The legislation clarifies that hybrid pension plan designs are valid and provides additional incentives for workers with defined contribution plans.


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