Longevity in annuity contracts cause concern for IRI

The Insured Retirement Institute told the Internal Revenue Service in a letter that it agrees with its proposed regulation regarding longevity annuity contracts because it believes retirement security and annuities and other guaranteed lifetime income products are important. But it does have a few problems with the proposed rule changes.

The IRS and the Department of the Treasury began looking into the possibilities of offering lifetime income products in defined contribution plans at the beginning of 2010. A request for information was submitted to the Federal Register, including questions relating to how the required minimum distribution rules affect defined contribution plan sponsors’ and participants’ interests in the offering and use of lifetime income.

In particular, it asked whether there were changes to the rules that could or should be considered to encourage arrangements under which participants can purchase deferred annuities that begin at an advanced age.

A number of individuals and groups identified the required minimum distribution rules as an impediment to the utilization of these types of annuities. One such impediment was the requirement that, prior to annuitization, the value of the annuity be included in the account balance that is used to determine required minimum distributions.

This requirement raises the risk that, if the remainder of the account has been depleted, the participant would have to commence distributions from the annuity earlier than anticipated to satisfy the required minimum distribution rules.

Others stated that if the deferred annuity permits a participant to accelerate the commencement of benefits, then, to take that contingency into account, the premium would be higher for a given level of annuity income regardless of whether the participant actually starts receiving benefits at an earlier date.

The Treasury Department and the IRS concluded that there are substantial advantages to modifying the required minimum distribution rules to facilitate a participant's purchase of a deferred annuity that is scheduled to commence at an advanced age—such as age 80 or 85—using a portion of his or her account.

Under the proposed amendments to these rules, prior to annuitization, the participant would be permitted to exclude the value of a longevity annuity contract that meets certain requirements from the account balance used to determine required minimum distributions.

Thus, a participant would never need to commence distributions from the annuity contract before the advanced age to satisfy the required minimum distribution rules and, accordingly, the contract could be designed with a fixed annuity starting date at the advanced age.

IRI took issue with the proposal’s 25 percent or $100,000 account value limitation.

“We suggest that a system could be developed that would allow for a correction to a mistake in calculations. The amount that would be over the limits would be applied to the participant’s required minimum distribution calculation. However, the remainder of the QLAC would remain intact and would still ensure longevity protection for the participant,” said Catherine Weatherford, president and CEO of IRI, in a letter.

The IRS and Treasury also concluded that any special treatment under the required minimum distribution rules should be limited to the lessor of 25 percent of the individual’s account balance or $100,000.

The proposed regulation requires that each premium payment for a QLAC be tested to determine whether the cumulative QLAC premiums paid exceed 25 percent of the account balances (on that date) of all retirement accounts. IRI members have concerns that the 25 percent limitation could prove to be problematic in practice.

“First of all, we believe that these limits will be extremely difficult to accurately track and calculate. Secondly, the percentage limitation tracks cumulative premiums and compares them to the current balance in retirement accounts. If the participant is withdrawing funds to pay for everyday expenses, but paying longevity premiums to provide future income, the account balance may eventually decline to a level where the cumulative QLAC premiums exceed 25 percent of the account balance. We suggest that some flexibility could be included in the proposed rule to address these types of situations,” she said.

IRI members have expressed concerns that the inflation adjustments in the proposed regulations would not be pertinent for a number of years. “According to our interpretation, delaying an adjustment until the $100,000 limit became $125,000 could have the effect of denying cost-of-living adjustments for 10 or more years.”

Currently, the proposal would not permit a contract owner to purchase a refund of premium feature. We are concerned that the lack of any surrender value, even at the death of a participant, would impose undue economic risk on the purchaser and could discourage participants from buying this insurance protection, she added.


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