SIE Exam Lesson 12: Tax Advantaged Accounts & Products

At what age must a person is a traditional IRA owner begin taking required minimum distributions? What does this occur on? When does a person have to stop contributions to an IRA?

72. April 1st after the person's birthday. This is called the required beginning date (RBD) there is no age limit on making regular contributions to traditional or Roth IRAs. Therefore, even if someone is receiving RMDs, there can still be contributing.

What is the contribution limit of IRA? When is the contribution deadline for an IRA? What can contributions be invested in?

$6,000 per year or 100% of your income if your income is less than $6,000. If you are over 50 years old you can contribute an additional $1,000 for catch up. Deadline is the tax deadline of the following year. Can be invested in stock, bonds, MFs, ETFs (not allowed: fixed life insurance, antiques, gold, silver, options, real estate)

underfunded pension plan

A company does not have sufficient assets to pay defined benefit plan obligations.

What are annuities?

A contract between an individual and a life insurance company that provides retirement income for life.

Roth 401(k)

A defined contribution plan allowing employees to defer income by making after-tax contributions to a retirement account. Employees can have a Roth 401(k) in addition to a regular 401(k). Employers can match what someone puts in their roth 401, however the contribution match can only go towards a regular 401(k) The benefits of a Roth 401(k) have the most impact on individuals currently in low tax brackets who anticipate moving into higher tax brackets in the future.

401(k)

A defined contribution plan that automatically takes out money from an employee's paycheck before income taxes and invests it in mutual funds for purposes of retirement savings. Typically, this is coupled with employee matching. However, employers are not required to match contributions. Employees have direct control over what is invested in.

Who can sell variable annuities?

A sales rep. who is registered with FINRA as well as one who holds a state insurance license.

Annuity Premium

Annuity contracts' minimum payment -- contracts can be funded with a single premium, lump sum, or periodic payments.

SEP IRA and Keogh Plans

Both of these plans are for self-employed or small business owners who are not big enough to be able to offer their employees plans like 401(k)s but still want to save more for retirement than just normal IRAs SEP IRAs: A simplified employee pension (SEP-IRA) is a type of employer- sponsored retirement plan that is typically offered by small businesses because it is inexpensive to set up and maintain. Instead of companies having to establish a new plan, a SEP-IRA allows the company to contribute directly to each employee's IRA. Take note that only the employer, not the employee, can contribute to a SEP-IRA. Keogh Plans are technically corporate retirement plans and can be set up as either defined benefit or contribution plans. And are generally a little more complicated but come with higher contribution limits so they are popular for say a self-employed doctor who makes a lot of money.

Immediate annuity

Immediate annuities allow you to convert a lump sum of cash into an income stream. They differ from deferred annuities in that they do not have an accumulation period. They are funded with a single lump-sum payment rather than with a series of premium payments.

Spousal IRA

Allows a married person who is not in the paid labor force, or a low-earning spouse to make a fully deductible contribution to a traditional IRA by using earned income from their spouse.

What are variable annuities?

An annuity plan that is based on the performance of, normally, equity investments that the investment owner chooses. Therefore, the annuities payments can vary based on market conditions. The upside was the possibility of higher returns during the accumulation phase and a larger income during the payout phase. The downside was that the buyer was exposed to market risk, which could result in losses. With a fixed annuity, by contrast, the insurance company assumes the risk of delivering whatever return it has promised.

Fixed Annuity

An annuity plan that pays periodic income payments that are guaranteed and fixed in amount

Separate Account

An investment pool funded by contributions to variable contracts, including variable annuities and variable life insurance. These assets are kept separate from the insurance company's general account The separate account is designed to offer growth to keep pace with inflation for purchasers of variable products. In exchange for growth potential, purchasers take on investment risk. Investors that require full liquidity or are uncomfortable with potential loss of principal are not good candidates for variable annuities. Because of their lack of liquidity, annuities are not generally recommended for younger investors.

When was the ERISA Act?

1974

Individuals are eligible for an ABLE account if they have had a disability prior to what age?

26

What are the different types of tax-deferred accounts?

401(k), Traditional IRA, Pension, Qualified Annuities

457 Plan

457 plans are similar in nature to 401(k) plans, only rather than being offered to employees at for-profit companies, they cater to state and local public workers, together with highly paid executives at certain nonprofit organizations, such as charities.

When are distributions available for retirement accounts?

59.5 and older-- IRA and annuities

If you contribute over the traditional IRA limit for max contributions in a year what is the penalty?

6%

Joint with last survivor Annuity

-Variable annuity contract that is jointly owned by more than 1 party (typically married coupes) -Payments continue until last owner dies -Because this has the longest potential payout period, the payouts are generally the smallest for this type of variable annuity

annuity Accumulation Phase

-purchasing accumulation units -units remains same unless more purchases or made

What are the two ways that someone qualifies for a traditional tax-deferred IRA?

1.) If they are not eligible for a qualified corporate plan (most likely the company they work for doesn't offer one) regardless of their income 2). They are eligible for a qualified plan but make under a certain amount of income

If an investor's investment objective has changed, can they switch from one annuity contract to another?

A 1035 exchange allows an investor to transfer from one variable annuity to another with no tax consequences. Note that surrender charges may still apply.

profit-sharing plan

A structure whereby employees may share in the profits of the business. This is typically combined with 401(k)s. Profit-sharing plans are designed for flexibility. They allow employers to make contributions to 401(k)s in profitable years (or whenever they wish) and make little or no contributions in other years. The key requirement is that the same percentage of salary must be contributed for all eligible plan participants.

403(b) plan

A tax-deferred retirement plan for teachers, hospital workers, ministers, and some other public employees. Similar to a 401(k), it allows individuals to make pre-tax (tax-deductible) contributions. The investments in the plan grow tax-deferred and all distributions from the plan are taxed as ordinary income.

Life with Period Certain Annuity

A variable annuity contract where the policy owner wants to get income for life but also wants to guarantee that a survivor gets a benefit if the annuitant dies for a certain period of time; made in 5,10,15 and 20 years option

ABLE accounts

Accounts for disabled individuals that provide some of the benefits of special needs trusts without the complexities typically associated with those trusts. Have similar tax structure to 529 ESA plans (tax-free)

Advisor Sold Vs. Direct Sold 529 plans

Advisor sold plans are plans opened through a municipal securities firm. Direct sold are plans opened directly with the state. Fees are typically lower with direct sold plans but do not have access to professional advice like advisor plans.

ERISA Vesting Requirements

All contributions made by employees must be 100% vested immediately. All contributions made by employers must be 100% vested after 5 years.

Moving IRA investments from one account to another?

Called a Rollover. Have 60 days to complete this to avoid early withdrawal penalties.

When can a person make contributions to an IRA?

Contributions to a traditional and ROTH IRA are permitted at any age.

What are the two types of Qualified Corporate Retirement Plans?

Defined Benefit: 100% funded by the employer. Promised specific retirement benefits set by a formula that has things like years of service, average salary, etc. Example of this is pension plan Defined Contribution: Retirement funds are determined by amount of invested and performance of investments selected. Contribution amount is decided by participant, bears market risk, example 401(k)

When can someone take distributions from an annuity? What is the penalty for early withdrawls?

Distributions can begin at 59.5 and there is a 10% penalty if early withdrawl.

What defines a qualified expense for a 529 plans? What happens if money is not spent on a qualified expense?

Expenses that are required by the institution. Spending is subject to income tax and 10% federal penalty.

What is the penalty for failure to take all of a required RMD from a traditional IRA

Federal excise tax of 50%.

529 Plan in state vs out of state

Generally speaking, in state 529 plans contain less fees / expenses if filed in state than out of state.

GIC

Guaranteed investment contract. A product an insurance company offers investors. Investor deposits cash for a fixed period and in return the insurance company provides the investor with a guaranteed rate of interest as well as a return on principal.

What make someone have a non-dectubile traditional IRA?

If they are eligible for a qualified corporate plan but make over a certain amount of income

What is the penalty for taking money out of a IRA early? What are some exemptions that allow you to take money out early without a fine?

If you take money out of a traditional IRA before 59.5, the money is taxable and a 10% fine. exemptions like taking money out for education purposes disability of account owner First time home buyers medical expenses death of account owner

What is an IRA?

Individual Retirement Account. Allows individuals with earned income to open their own personal retirement account. A person who has, for example, a 401(k) with an employer can also open up an IRA.

What is a 529 ESA plan?

Issued by state or local gov't (aka a municipal fund security). Regulated by MSRB. Education Savings Account. Follows a roth tax-free structure so contributions are post tax. Contribution limit varies per state. Distributions can be used for all levels of education. There is no age limit to when 529 plan $$ must be spent (as opposed to coverdell plan which is 30 years old)

What is required for a corporate retirement plan to be considered "qualified"

It must meet ERISA guidelines. ERISA guidelines are that the plans are non-discriminatory, offered to every full time and part time employee that is 21 or older has one year of employment. Must also present a vesting schedule which specifies when employees have ownership rights to employer contributions

Rules surrounding married couples and IRAs

Married couples can both contribute up to the max amount based on the combined income of the couple.

Annuity premium

Minimum payment from customer to insurance company when opening an annuity contracts.

When can someone take out totally tax-free distributions from a Roth IRA?

Must be over 59.5 and must have waited a 5 year period after setting the account up.

If an individual is under 59.5 with a ROTH IRA and has a valid exception what are the penalties and how are earnings taxed?

No 10% penalty. If the roth has been valid for 5 years then no taxes, if the roth has been valid for less than 5 years, taxed as ordinary income.

If someone has multiple IRAs does the contribution limit change?

No the contribution limit is the total sum for all accounts

In a fixed annuity, does the annuitant bear any risk?

No, all risk is directed to the company who must make the fixed payments regardless of how the market is doing. The only potential risk is that the fixed payments may not keep up with inflation.

Qualified vs. Nonqualified Annuities

Non-qualified annuities use after-tax dollars for funding. Consequently, you've already paid taxes on the money you purchased it with. There are no required minimum distributions for non-qualified annuities. Therefore, if a withdrawal is made, income taxes are due on the difference between the amount paid into the annuity and its total value. A qualified annuity differs from a non-qualified annuity in that it is funded by pre-tax dollars. The required minimum distribution rules that apply to traditional 401(k)s and IRAs, which require you to begin taking minimum distributions starting at age 72, also apply to qualified annuities.

What is risky about non-qualified plans?

Non-qualified plans carry credit risk if the employer is insolvent. Assets in the plan are not protected if the company goes bankrupt.

During the accumulation phase of a variable annuity, how are dividends, interest, and capital gains taxed?

One of the most attractive benefits of a variable annuity is tax-deferred growth during the accumulation period. All dividends, interest, and capital gains earned during the accumulation period may be reinvested tax free. Once withdrawals are made, tax consequences apply.

How are Roth IRAs different from traditional IRAs?

Only available to taxpayers who have an income below a certain limit. Once a person's income exceeds the limit she can no longer contribute to a Roth IRA. No Roth IRAs do not have a RMD date (technically its the death of the owner)

What type of income can someone contribute to an IRA?

Only earned income. Therefore they cannot contribute things like capital gains, dividends, interest, pension income, etc

What are Non-Qualified Corporate Retirement Plans?

Plans that do not meet the ERISA guidelines and therefore have tax consequences. Some firms will choose Non-Qualified Corporate Retirement Plans because qualified plans do come with some limitations like contribution limits, etc Contributions to non-qualified plans are made after-tax, the growth in the account is taxed as ordinary income when it is withdrawn. For example if 500,000 is contributed and it grows to 700,000 only 200,000 is taxed because the 500.000 has already be taxed. Examples are payroll deductions and deferred compensation plans -- contributions are after tax (non-deductible)What isdsd

Guaranteed death benefit

Relevant during the accumulation phase. If an annuitant dies during an accumulation phase, the investor's beneficiary receives the greater of the current value of the contract or the principal invested. Protects the principal against loss due to market declines. This benefit usually ends once the account is annuitized.

What are Qualified Corporate Retirement Plans?

Retirement plans that let employees and employers contribute pre tax dollars into a retirement account.

What are examples of tax-free accounts?

Roth IRA, Roth 401(k), 529 College Savings

What is a Coverdell ESA plan?

Roth tax-free structure. High income earners cannot contribute. $2,000 contribution limit per child, but you can pick out direct investments. Coverdell funds must be spent or transferred to a family member by the time the beneficiary turns 30 or else subject to income tax and 10% fee.

What are contribution limits for a roth IRA?

Same as for a traditional IRA

What are the penalties for violating an annuities contracts?

Surrender Charges. An annuitant pays a surrender charge when/if they sell an annuity (pull money out of the annuity or choose not to annuitant). A surrender charge declines over time as the annuitant becomes closer to having the ability to collect distributions.

What are the two main mechanisms through why tax-advantaged accounts are acheived:

Tax Deffered Accounts and Tax-free accounts

How do investments in annuities grow?

Tax deferred.

What structure tax structure are Qualified Corporate Retirement Plans?

Tax-Deferred

What is annuity tax structure?

Tax-Deferred growth. Whether contributions to annuities are made tax-deferred or after tax depends on whether the annuity is qualified or not.

Subaccounts

Within the separate account of an insurance company. These function like mutual funds with various risk/return profiles. When the investment management of the insurer passes the responsibility of management to subaccount fund managers, the separate account must be registered as a unit investment trust. When the assets of the separate account of an insurance company are managed by the insurance company's investment company, the account is registered as an open-end investment company.

Are variable annuities considered investment securities?

Yes, and therefore must be registered with the SEC and provide a prospectus.

Can the owner of a 529 plan switch the designated beneficiary of a plan?

Yes, at any time. Given that the new beneficiary is a family member of the old beneficiary.

Surrender vs early withdrawal fees for an annuity

Withdrawals from annuities can trigger one of two types of penalties. The insurer issuing the annuity charges surrenders fees if funds are withdrawn during the annuity's accumulation phase. The IRS charges a 10% early withdrawal penalty if the annuity-holder is under the age of 59½.

Annuitization phase

The period when an annuitant stops putting money in and begins receiving payments. These payments will vary with the performance of the subaccount however payment is guaranteed for the life of the annuitant.

Straight Life Annuity

The variable annuity payout option that will guarantee an annuity payment for the remainder of an individual's life. This option typically provides the largest monthly payment. However, if the annuitant dies, even if it is very early in the contract, the payments stop completely.

General account

Where an insurance company invests net premiums in order to fund guaranteed fixed payouts.

Deferred Annuity

With a deferred annuity, you make a lump sum or a series of premium payments and defer the payout until some time in the future. This is known as the accumulation period. The earnings in the annuity are not subject to taxation until distributed. Contrasts with an immediate annuity