Benefits of Deferred Insurance
By using deferred insurance, you can take advantage of many available options, including:
1. Adding funds to the account to increase the insurance value.
2. Withdrawing amounts in a lump sum as needed (such as for large expenses, for example).
3. Transferring assets to a different financial institution.
4. Withdrawing the full amount.
5. Converting the insurance into a series of later payments.
6. Leaving the assets to earn interest over time.
Each option has fees or taxes that must be considered. You may have to pay income taxes, penalty taxes, or surrender fees to the insurance company, or other fees when withdrawing money from the insurance.
Note: Annual fees are an important aspect of deferred insurance. Rider management and sub-account management fees can exceed 1% of the assets annually. Therefore, it is crucial to familiarize yourself with all the alternatives available to you and review the details with a qualified tax professional before making any decisions.
How Deferred Insurance Works
The term “insurance” refers to a series of payments. Traditionally, insurances provide lifetime income (such as retirement income, for example). When using deferred insurance, you are not necessarily converting money into a regular income stream. Instead, you can simply withdraw amounts as needed, withdraw the entire amount at once, or transfer assets to another insurance or account.
Ultimately, deferred insurance allows you to maintain control over your money and keep your options open instead of irrevocably handing everything over to the insurance company in exchange for lifetime payments.
When used this way, deferred insurance is essentially an account that happens to have some insurance features: some tax properties and possibly guarantees from the insurance company (including the possibility of death benefits).
Note: If you eventually decide to convert it into a stream of income, you can choose a payment option from the insurance company’s list of options. For example, you may choose to receive income that covers your lifetime only, or you may prefer that the payments continue for your lifetime or your spouse’s lifetime (whichever is longer).
How Long Can Payments Be Deferred in Deferred Insurance
The term “deferral” refers to the fact that you are waiting to convert the money into an income stream or take action on the insurance. Compare this approach with immediate insurance, which starts making payments almost immediately after purchasing and funding the insurance.
Once you start receiving payments from immediate insurance, it is difficult or nearly impossible to stop the process and get your money back. But with deferred insurance, you can wait – perhaps indefinitely – to convert the insurance contract into an income stream.
Adding Money to Deferred Insurance
Deferred insurance includes an “accumulation phase,” which is the time period before the insurance is converted (if it ever is). During this period, you can add money to the account, as long as the insurance company and tax laws permit it. For example, you can make one-time or monthly contributions to the account or leave it as is.
However, it is essential to understand all the rules concerning adding money. For instance, if the account is an IRA account, be sure to pay attention to annual contribution limits and eligibility requirements for contributions. The annual contribution limit for 2021 and 2022 for IRA accounts is $6,000 (or $7,000 if you are over 50 years old).
Withdrawing Money from Deferred Insurance
After the accumulation phase comes the “distribution phase” in deferred insurance, which is when you can withdraw money. Withdrawing funds after age 59 and a half will not incur penalty fees. As mentioned, you can defer the insurance indefinitely if you choose, or you can opt to receive payments in several different ways:
1.
Withdraw a large amount at once, which is a taxable amount.
2. Regular withdrawals, where taxable amounts are withdrawn periodically while the remaining funds earn interest.
3. Conversion to an income stream, where payments are made regularly for a specified period, usually until the beneficiary’s death (or their spouse’s death).
How Tax Deferral Differs from Deferred Annuity
Do not confuse the timing of payments from a deferred annuity with tax deferral, which is another feature available from annuities.
With tax deferral, you typically do not pay taxes on the income inside the annuity each year. Instead, you only pay taxes when you withdraw the earnings from the tax-deferred account. In fact, this allows you to benefit from accumulation: you retain more money in the contract, invest your earnings, and earn more on top of those earnings.
The concept of tax deferral is similar to the idea of a deferred annuity: in both cases, you are deferring something to a later time (whether that be when receiving income from the annuity or when paying taxes).
The Importance of Seeking Professional Advice on Deferred Annuities
Consult a tax advisor or certified accountant to identify the implications of using annuities, as well as the withdrawals or transfers, before you do anything. They will help you delve into these complex insurance products (and the tax laws related to them) in detail.
Note: Guarantees are only as strong as the insurance company providing them, and it is possible to lose money in an annuity. Consult a licensed local insurance agent for more details.
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Sources:
– Internal Revenue Service. “Retirement Topics – IRA Contribution Limits.” Accessed Dec. 12, 2021.
– Internal Revenue Service. “When Can a Retirement Plan Distribute Benefits?” Accessed Dec. 12, 2021.
– Securities and Exchange Commission. “Annuities” Accessed Dec. 12, 2021.
Source: https://www.thebalancemoney.com/definition-of-deferred-annuity-315094
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