Retirement needs vs. RMD rules — and the QLAC

Allen Wastler

By Allen Wastler
Allen Wastler is a former financial journalist with over 30-years of experience, including time at CNBC, CNN, and Knight-Ridder Newspapers.
Posted on Aug 27, 2021

Are you entering retirement, but want to delay taking the full required minimum distributions (RMDs) from your retirement portfolio? Perhaps use that money to help secure the possibility of a long retirement instead? Meet the QLAC.

“There are rules and regulations in place that sometimes force dollars out of retirement accounts in a way that does not perfectly align with the growing longevity of today’s Americans,” said J. Todd Gentry, a financial professional with Synergy Wealth Solutions in Chesterfield, Missouri. “The QLAC helps address that longevity misalignment.”

QLAC stands for qualified longevity annuity contract. It’s a type of annuity that can be bought with money from qualified retirement accounts. And it provides a way to delay required minimum distributions and their associated taxes from the portion of the money used to buy this type of annuity. Yet at the same time, it helps build a plan for the possibility of living a very long life.

“It is not uncommon to see people working into their 70s, so it sometimes makes sense to defer those retirement distributions until later years — especially if the client expects longevity, or doesn’t necessarily need the money right away,” said Reed Willett, a vice president and investment specialist with Coastal Wealth, a MassMutual firm in Fort Lauderdale, Florida. “It certainly is nice to have that option available.”

To fully appreciate the possible benefits of a QLAC, you first have to understand the rules for withdrawing retirement funds.

Required minimum distribution (RMD) defined

When someone reaches age 72, they are required to start withdrawing money from their tax-deferred retirement accounts every year. And they have to take the money whether they need it or not. (Related: Turning 72? Required minimum distributions explained)

These withdrawal requirements cover all employer-sponsored retirement plans, including 401(k), 403(b), and 457(b) plans, as well as traditional IRAs and IRA-based plans, such as SEP IRAs, SIMPLE IRAs, and SARSEPs.

These kinds of accounts are funded with pretax dollars and grow on a tax-deferred basis. But withdrawals are taxed. That’s why the government sets an age when withdrawals must be made — it has to collect taxes at some point in order to generate funds for the federal budget.

But RMDs can present a challenge in planning for longevity and associated expenses, particularly increased health care costs.

Essentially, retirees must balance RMD requirements against their expected retirement income needs.

Deferring a portion of qualified retirement funds adds some flexibility into achieving that balance.

“A QLAC is a great way for someone to defer a portion of their required minimum distribution from IRA assets to a later date,” said Willett.

Annuities and the QLAC

Annuities are a useful way to help plan for a long retirement and the risk of outliving your funds. With an annuity contract, in exchange for a payment or a series of payments over time, an insurance company will provide a guaranteed stream of income at some specific point in the future.

Essentially, a QLAC is a specific form of a deferred annuity that can be purchased with retirement funds. Those retirement funds are removed from RMD requirements and their associated taxes deferred.

There are limits, though. The QLAC deferral can only last up to age 85. By that time, you must start receiving payment streams from the QLAC. And only the lesser of 25 percent of the aggregate account balance or $135,000 of your qualified retirement funds can be used to fund the QLAC.

Deferring a portion of qualified retirement funds from RMDs allows for more flexibility in planning for things like long-term care needs, financial professionals point out.

“Many people enter a nursing home in their early 80s, which happens to align with the distribution age and start date for the QLAC,” said Gentry. “So, by using the QLAC, you’re taking qualified dollars and allowing them to continue to grow tax deferred until your early 80s. Then, if nursing home expenses are being incurred after age 80, those would be medical expenses and, at least under current tax law, tax deductible. You’d be funding tax-deductible long-term care expenses with tax-deferred dollars. This is effective planning.”

It is important to note that not all annuities qualify as QLACs. And QLAC annuities must meet certain IRS criteria. A deferred income annuity must be designated as a QLAC at the time the contract is purchased; you can’t convert an existing deferred income annuity into a QLAC after a contract has been issued. Many people turn to a financial professional to help navigate the requirements and learn how a QLAC can possibly fit into their retirement plan. (Need a financial professional? Find one here)

The primary reason to choose a QLAC is to secure a guaranteed income stream for later years, especially if longevity is a concern. For the right person, a QLAC can provide a guaranteed income solution at a later age that may also help them manage the tax liability associated with RMDs.

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The information provided is not written or intended as specific tax or legal advice. MassMutual, its employees and representatives are not authorized to give tax or legal advice. You are encouraged to seek advice from your own tax or legal counsel. Opinions expressed by those interviewed are their own and do not necessarily represent the views of Massachusetts Mutual Life Insurance Company.