Individual Retirement Annuities

An individual retirement annuity operates much like a traditional individual retirement account (IRA). The main difference is that an individual retirement annuity involves purchasing an annuity contract or an endowment contract from an insurance company. An endowment contract is an annuity that also provides life insurance protection.

An individual retirement annuity must be issued in the name of the owner. The owner or the owner's surviving beneficiaries are the only ones who can receive benefits or payments from the annuity. The annuity contract must also meet all of the following requirements:

• The owner's entire interest in the annuity contract must be nonforfeitable (i.e., fully vested).

Tip The requirement that an individual retirement annuity be nonforfeitable does not prevent forfeiture of the account as part of a criminal proceeding. Remember, crime really doesn't pay.

• The contract must provide that the owner cannot transfer any portion of it to any person other than the issuer (i.e., the insurance company).

Warning An individual retirement annuity should not be used as collateral for a loan. If used as collateral, the contract is disqualified and ceases to be an individual retirement annuity as of the first day of the tax year in which the loan or pledge occurred. At that time, the fair market value of the annuity contract is considered to be distributable and, more importantly, taxable to the owner of the contract.

• The contract must allow for flexible premiums so that if the owner's compensation changes, the amount of payments can also change.
• Yearly contributions cannot exceed $5,500 for 2013 and 2014, mirroring the yearly contribution limits set for traditional IRAs.

Tip As with traditional IRAs, additional contributions can be made by those age 50 and over. For 2013 and 2014, an extra $1,000 can be added to the annual contribution limit each year.

• Any refunds of premiums can only be used to pay for future premiums or to buy more benefits before the end of the calendar year after the year the refund is received.
• Distributions from the annuity must begin to be made by April 1 of the year following the year the owner reaches age 70-1/2.

Endowment contracts. Endowment contracts issued before November 6, 1978, can qualify as individual retirement annuities. For those that purchased an endowment contract, it is important to note that no deduction is allowed for amounts paid under the contract that are allocable to life insurance. For purposes of making the allocation, the cost of the current life insurance protection under a qualified endowment contract is the product of the net premium cost (determined by the IRS) multiplied by the excess of the death benefit payable under the contract during the taxable year over the cash value of the contract at the end of the year.

Hopefully, the insurance company that issues the endowment contract can break this down for you. An example is provided below to show you how this would work out.

Example Tony Alto, an infamous underworld figure, thinks that combining life insurance benefits with a way to save for retirement covers all the bases for a "made" man in his position. In 2013, he contributes $5,000 under an endowment contract with a minimum death benefit of $150,000. The net premium cost, as determined by the IRS, for Tony's age is $1.61 per thousand dollars of life insurance protection. Tony can make the following tax-deferred retirement contribution in 2013: Tax-Deferred Retirement Contribution 2013 endowment payment $5,000.00 less premium cost ($1.61 x 150) $ 241.50 tax-deferred retirement contribution $4,758.50

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