The Details of Purchasing A QLAC In Different Tax Deferred Plans
Once you’ve decided to purchase a QLAC, you’ll need to figure out your ‘source of funds’, which is just a fancy way of saying you need to decide which account you’ll use to pay for the annuity. And the rules about how a large a QLAC you’re able to purchase can get a little complicated depending on which source of funds you choose. Purchases are capped at $125,000 if you hold at least $500,000 of qualifying assets and 25% of your total assets if you hold less than $500,000 in assets.
Under the regulation, the $125,000 limit (“the dollar cap”) is across all QLACs purchased in an IRA or any other individual retirement account. The 25% limit (“the percentage cap”) applies separately for each plan account with the exception that different IRA balances can be aggregated to apply towards the percentage cap. For example, if an individual had $250,000 in an IRA and $250,000 in a 401(k), the individual would be restricted to purchasing $62,500 in each of the accounts rather than $125,000 in either of the two accounts. However, if an individual had $250,000 in one IRA account and $250,00 in a separate IRA account, that individual would be allowed to purchase a $125,000 QLAC in either of the two accounts.
Individuals will need to keep track of all their QLAC purchases in order to ensure they do not exceed the limits. If they mistakenly exceed the limits, the final rule allows individuals to refund the excess payments back to the insurer without a penalty.
The Specifics of the Calculation and Mechanics of Purchasing Here we’ve laid out how the purchase of QLAC products can differ depending on what plan you’re using. The following types of defined contribution plans are allowed to offer a QLAC:
- Individual retirement accounts (IRAs)
Individual Retirement Account (IRA): This is probably the easiest way to buy a QLAC and where you’ll see the most product selection. In order to buy, you’ll need to verify that your IRA assets are sufficient for the size QLAC you want to purchase. How? The lesser of $500,000 or 25% limit is is based on the total fair market of all non-Roth IRAs, including SEP and SIMPLE IRAs, at December 31 of the year prior to the year when the QLAC is purchased. As the rules are written now, your 401(k) balance does not count towards the dollar cap or percentage cap, which means in order to purchase a $125,000 QLAC in your IRA, you’ll need at least $500,000 in IRA assets. If you have money spread across multiple IRA accounts, you can aggregate them and purchase the QLAC in only one of these accounts. For example, if you had $250,000 in one IRA account and $250,000 in another IRA account, you could purchase a $125,000 QLAC in either of these two accounts (rather than having to split it between the two accounts).
401(k): There are a couple differences between purchases in a 401(k) plan relative to purchases in an IRA plan. One difference is that the fund balance across multiple 401(k) plans cannot be aggregated to purchase a QLAC. To use an example, if you had $250,000 in one 401(k) plan and $250,000 in another 401(k) plan and wanted to maximize your QLAC purchase, you’d need to purchase a $62,500 QLAC in each of the two plans. Another difference is that the last valuation date is used rather than the prior year-end balance to determine the amount of qualifying assets. Finally, that balance is also adjusted by adding contributions made since the last valuation date and subtracting distributions. In lieu of a 401(k) purchase, you may also be able to rollover the 401(k) into.
403(b) Plan: These plans are tax-advantaged retirement savings plan available for public education organizations and some non-profit employers, among other organizations. Tax treatment is similar to a 401(k) plan, but product selection may be different.
457(b) Plan: In a 457(b) plan, the employer provides the plan and the employee defers compensation into it on a pre-tax basis. Unlike a 401(K) or 403(b) plan, there is no 10% penalty for withdrawal before the age of 59½. Product selection may differ from 401(k) and 403(b) plans.
Roth IRA: It’s not possible to purchase a QLAC in your Roth IRA. In fact, even if you could, there’s no reason to because Roth IRAs are not subject to the Required Minimum Distribution. You already paid taxes when you put the money in, so the RMD exemption doesn’t apply. It is possible to purchase a non-qualified Deferred Income Annuity with Roth IRA funds.
Pension Plan: Pension plans do not offer QLAC options today.