Variable Annuity IRA
(Better together, or just friends?)
Written by
Jeff Green has held a variety of sales and management roles at life insurance companies, Wall street firms, and distribution organizations over his 40-year career. He was previously Finra 7,24,66 registered and held life insurance licenses in multiple states. He is a graduate of Stony Brook University.
Some things just naturally go together — tomato soup and grilled cheese, pencil and paper, Scarlett and Rhett. The list is pretty long. Variable annuities and IRAs? Well, for the most part they work better separately than together.
IRAs and variable annuities are both financial tools for retirement planning. They both have tax advantages, and they don't have to be sponsored by an employer. Both of them have a variety of investments to choose from. They are, however, very different.
Variable annuities are complex, and searching through options can be confusing, time consuming, and frustrating. An independent insurance agent's role is to simplify the process and guide you through it.
Individual Retirement Accounts
IRAs are retirement plans created by Congress for individuals that can be set up outside the workplace as well as inside. The account is usually set up with a third party who is the custodian. Custodians are responsible for reporting and compliance, and are approved by the IRS. Banks, insurance companies, and other financial institutions generally act as the custodian.
Once the IRA is set up, you have to decide what the money is invested in. The only investments that are prohibited are collectibles (jewelry, stamps, coins, etc.) and life insurance. Stocks, bonds, real estate, and other investments including variable annuities can be bought in the IRA account.
Traditional IRAs
Traditional IRAs feature tax deductible contributions. Anyone who is not covered by a retirement plan at work is eligible for 100% tax deductible contributions to a traditional IRA. If you or your spouse are covered, tax deductible contributions are reduced at higher income levels.
If your filing status is...
single or head of household
| and your modified AGI is... | then you can take... |
| $65,000 or less | a full deduction up to the amount of your contribution limit. |
| more than $65,000 but less than $75,000 | a partial deduction |
| $75,000 or more | no deduction |
married filing jointly or qualifying widow(er)
| and your modified AGI is... | then you can take... |
| $104,000 or less | a full deduction up to the amount of your contribution limit. |
| more than $104,000 but less than $124,000 | a partial deduction. |
| $124,000 or more | no deduction. |
married filing separately
| and your modified AGI is... | then you can take... |
| less than $10,000 | a partial deduction. |
| $10,000 or more | no deduction. |
If you file separately and did not live with your spouse at any time during the year, your IRA deduction is determined under the "single" filing status.
Investments grow tax deferred in a traditional IRA. Distributions are fully taxable at ordinary income rates. IRA owners have to begin taking money out no later than age 72 according to IRS required minimum distribution rules (RMD).
Variable annuity IRAs are generally set up with the insurance company as the custodian. The variable annuity itself is called a "qualified variable annuity."
Roth IRAs
Roth IRAs feature tax-free income. Eligibility for Roth IRAs is based on income. Investors at higher income levels are not eligible for Roth IRAs.
If your filing status is...
married filing jointly or qualifying widow(er)
| and your modified AGI is... | then you can contribute... |
| < $196,000 | up to the limit |
| > $196,000 but <$206,000 | a reduced amount |
| >$206,000 | zero |
married filing separately and you lived with your spouse at any time during the year
| and your modified AGI is... | then you can contribute... |
| <$10,000 | a reduced amount |
| >$10,000 | zero |
single, head of household, or married filing separately and you did not live with your spouse at any time during the year
| and your modified AGI is... | then you can contribute... |
| <$124,000 | up to the limit |
| >$124,000 but <$139,000 | a reduced amount |
| >$139,000 | zero |
Contributions to a Roth IRA are not tax deductible. The investments grow tax deferred, and distributions are not taxable. There are no required minimum distributions for Roth IRAs. Roth IRA variable annuities are called "qualified variable annuities."
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Variable Annuities vs. IRAs
Variable annuities are insurance products that have a menu of investment selections called subaccount funds. Subaccount funds are similar to mutual funds. They offer professional money management and diversification. Unlike mutual funds, subaccount gains and dividends are not taxed until the money is distributed. There is no tax on transfers between subaccount funds, a valuable feature for investors who make regular changes.
Sound familiar? IRAs have the same tax advantages. There is no tax on dividends, capital gains, or interest until the money is distributed. There is no tax on transfers between investments.
The chart below illustrates the differences between traditional IRAs, Roth IRAs and non-qualified variable annuities.
| Non-Qualified Annuity | Traditional IRA | Roth IRA | |
| Contributions | Unlimited | $6,000 For all IRAs. $7,000 above age 50. | $6,000 For all IRAs. $7,000 above age 50. Contributions reduced at higher income levels. |
| Tax deductible | No | Fully deductible if not covered by plan at work. If covered deductions are reduced according to income. | No |
| Capital gains, dividends and interest | Tax deferred | Tax deferred | Tax deferred |
| Annuity Income | Partially taxable at ordinary rates. | 100% taxable at ordinary rates | Tax free |
| Withdrawals and distributions | Withdrawals are gain first. Gain is taxed at ordinary rates. | 100% taxable at ordinary rates | Tax free |
| Required minimum distributions | None | At age 72 | None |
| Death benefits | Gain is taxable to beneficiary at ordinary rates. | Rules for inherited traditional IRAs and qualified plans apply. | Rules for inherited Roth IRAs and plans apply. |
| Penalties | 10% for withdrawals before age 59 1/2. | 10% for withdrawals before age 59 1/2. | 10% for withdrawals before age 59 1/2. Penalty for withdrawals prior to end of the 5th year. |
Variable Annuities Inside of IRAs
A variable annuity inside of an IRA has no tax advantage over mutual funds, individual stocks and bonds, or any other investment. Variable annuities generally have higher fees and expenses than other investments, which are two solid reasons not to purchase a variable annuity inside of your Roth IRA or traditional IRA.
In a few circumstances, though, a variable annuity inside a Roth or traditional IRA can make sense. For a retiree who wants to create lifetime income from their IRA, variable annuities offer living benefits and annuitization options. For retirees and pre-retirees who are concerned about the impact of down markets (like 2008 to 2009), the protection features of variable and variable-indexed annuities can be attractive.
Variable Annuity "Rollovers" to IRAs
Generally, you cannot convert a variable annuity to a Roth IRA or traditional IRA unless it's part of a qualified retirement plan.
Assets can be rolled over from qualified retirement plans like 403B plans to IRAs under certain conditions. So, if your variable annuity is "qualified" and part of a qualified retirement plan, you can roll it over into your IRA.
A qualified annuity can be converted to a Roth IRA if the original retirement plan is not a Roth plan. The catch is that you will pay taxes when you make the conversion. Consult your professional tax advisor if you are considering converting from a traditional retirement plan to a Roth IRA.
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Who Should Buy Variable Annuities?
Variable annuities are tax-deferred investment vehicles. They can supplement your retirement savings if you have "maxed out" your IRA and employer sponsored plan contributions. Variable annuities also offer options to protect your retirement money, and convert it to lifetime income.
Variable annuities are a complicated mix of insurance and investments. They are flexible financial tools for retirement planning, but they are not for everyone.
Independent insurance agents help folks just like you make smart decisions. They're annuity professionals, and they can help you decide if a variable annuity is right for you.
IRS.gov