Chapter 10

Variable Annuity

income payments cart depending on common stock prices

Exclusion Ratio=

investment in contract/expected return

Roth IRA

-Contributions are not income-tax deductible -Investment income accumulates income-tax free -Distributions are received income-tax free if certain conditions are met -Can make contributions after age 70 1/2 -Minimum distribution rules at age 70 1/2 do not apply

Annuity Units (retirement)

-Converted accumulation units -Number of annuity units remain constant, but value fluctuates with common stock values

Accumulation period

-Early stage of bringing up cash value of annuity -guaranteed minimum interest rate -current interest rate -bonus annuities

Immediate Annuity

-First payment is due one payment interval from the date of purchase -Guaranteed income payment that starts immediately

1. Accumulation units (characteristics of Variable Annuities)

-Premiums purchase accumulation units -Value of each unit depending on common stock prices

Deferred Annuity

-Provides income payments at some future date -if annuitant dies a death benefit is typically paid equal to the sum of gross premiums paid At maturity: lump-sum or select settlement option

2. Individual Retirement Annuity (IRA)

-Purchase from life insurer -Annuity owners interest in the contract must be non-forfeitable -Contract must be nontransferable -Annuity must permit flexible premiums

IRA Rollover Account

-Tax free distribution of cash from one retirement plan to another -If you receive the funds directly, the employer withholds 20 percent for federal taxes.

Characteristics of Variable Annuities

1. Accumulation Units 2. Annuity Units

Eligibility for Traditional IRA

1. Earned income during year 2. Under 70 1/2 years old

Enhanced Earning Benefit

Pays additional amount for income taxes when annuitant dies

Purpose of Annuity:

To create lifetime income that cannot be outlived

Life Annuity (no refund)

life income only while the annuitant is alive

Cash option (settlement)

lump sum or installments of cash

Enhanced Death benefits (variable annuity)

1. Guaranteed principal plus interest 2. periodically adjusts the value to lock in investment gains

Equity Indexed Annuities

Combines guarantees of fixed annuity with limited participation in stock market gains -Term: 1-15 years -value linked to performance of stock market index -Min interest rate guaranteed

Stepped up benefit

Contract periodically locks in investment gains

Fixed Annuity

Pays periodic income payments that are guaranteed and fixed in amount

Non-Qualified Annuities

Individual annuity purchased from commercial insurer

1. Individual Retirement Account (IRA)

Is a trust: trustee must be a bank, a credit union, an S&L, or an IRA approved entity -Contribution must be in cash -Contributions cannot be used to purchase a life insurance policy

Rising Floor Death Benefit

death benefit is periodically reset

Annuitant

The person who receives the periodic payments or whose life governs the duration of payment.

Mortality and Expense Risk Charge

Variable Annuity fee for mortality risk;guarantee that expenses will not exceed a certain percentage of assets; allowance for profit

Administrative Charge

Variable Annuity fee for paperwork, record keeping, periodic reports to the annuity owner

Investment Management Charge

Variable Annuity fee from brokerage services and investment advice

Surrender Charge

Variable Annuity fee if annuity is surrender during early years

Traditional IRA

allows workers to take a tax deduction for part or all of their IRA contributions -Investment income accumulates on a tax-deferred basic -Distributions are taxed

Joint and survivor annuity (settlement)

annuity income paid until the last annuitant dies

Life annuity with guaranteed payments (settlement)

pays life income with certain number of guaranteed payments

Annuity

periodic payment that continues for a fixed period or for the duration of a designated life or lives

Purpose of Variable Annuity

-to provide an inflation hedge by maintaining the real purchasing power of the periodic payments during retirement -correlation between stock prices and cost of living

Key Elements of Equity-Indexed Annuities

1. Participation Rate 2. Maximum Cap rate 3. Guaranteed minimum value

Individual Retirement Accounts (IRA)

Allows workers with taxable compensation to make annual contributions to a retirement plan up to a certain limit and receive favorable income-tax treatment

Tax penalty for early withdrawal (traditional IRA)

Distributions before age 50 1/2 results in 10 percent tax penalty that must be paid not he amount of the distribution included in gross income. -Exceptions: unreimbursed med expense, disability, purchase of first home, higher education, and annual lifetime payments

Inflation index annuity option (settlement)

provides periodic payments that are adjusted for inflation

installment refund option (settlement)

if annuitant dies before receiving totally income payments equal to the purchase price of the annuity, the payments continue to a beneficiary until they equal the purchase price

Exceptions for 10 Percent Penalty

1. Made after 591/2 2. Made because of qualifying disability 3. Made from an annuity under a qualified personal injury settlement 4. Made as annual lifetime payments 5. Made after death/total or permanent and total disability

What three sources do Annuity Payments consist of?

1. Premium Payments 2. Interest earnings 3. Unliquidated principal of annuitants who die early

Tax Implications on Individual Annuities

1. Premiums not income-tax deductible 2. Premiums paid with after-tax dollars 3. Investment income is tax deferred 4. Distributions before age 591/2 incur 10 percent penalty

Guaranteed Death benefits if annuitant dies during accumulation period (great of the following):

1. The amount invest in the contract 2. The value of the account at the time of death

Single-premium deferred annuity

purchased with a lump sum or all in one payment

Liquidation (payout) period

regular payment is being made to the owner of the annuity

Taxation of Distributions (traditional IRA)

taxed as ordinary income (except for non-deductible IRA contributions)

Exclusion Ratio:

used to determine the non-taxable and taxable portions of the annuity payments

Flexible Premium Annuity

vary premium payments