With tax time just around the corner, the savvy advisor knows how to make the proper plans to help clients deal with (or entirely avoid) the tax repercussions of their valued annuities. Here are five life-saving strategies to discuss.
You are destined to generate a steady stream of kudos and referrals from your clients by consistently showing them creative ways to minimize their taxes. But to be a crowd-pleaser around tax time, you have to know the tax nuances associated with the various insurance and financial products you’re likely to come across in client portfolios, including annuities.
With the filing deadline looming, here are five steps advisors can take to help clients maximize the tax efficiency of their annuity holdings and avoid landmines that lurk in the tax code:
1. Discuss the fact that annuities do not receive a step-up in basis at the death of the annuitant, and because of that, why it might be worthwhile to invest in an estate-enhancement rider, such as a non-reducing death benefit guarantee, if they intend to pass on the annuity contract to an heir.
The lack of step-up is one reason deferred annuities “are generally not a great wealth transfer vehicle,” says Jim Ivers, JD, LLM, ChFC, professor of taxation at the American College. With no step-up, heirs who inherit an annuity before it has been annuitized may have to pay ordinary income tax on any contract gains, along with estate taxes.
However, one way a wealth-transfer-minded annuity owner can directly address that issue is by investing in a rider to the annuity contract that guarantees the death benefit from the annuity won’t be reduced or one that provides beneficiaries with an additional payment at the contract holder’s death to help cover taxes. One maneuver to consider, says Robert E. Vashko, JD, AAMS, director of the retirement and wealth strategies group at Jackson National Life Distributors, is to put a deferred annuity with such a rider inside a Roth IRA. Not only does that guarantee the annuity’s death benefit remains intact, he explains, but because the contract is inside a Roth, the death benefit should transfer tax-free to heirs, allowing the annuity to function much like permanent life insurance would, but without the underwriting requirements. Such a maneuver should have appeal as a means of wealth transfer, particularly to “clients who are too old or have had too many health issues” to qualify for a permanent life insurance policy.