On July 2, 2014, the IRS issued final regulations concerning qualified longevity annuity contracts (“QLACs”) and how these are to be treated under the required minimum distribution (RMD) that apply to qualified retirement plans. The final regulations are effective immediately, and, when applicable allow for QLACs to be exempt from the RMD rules.
The increase in average life expectancy of Americans increases the likelihood that more retirees will outlive their retirement savings. To combat this potential problem, many retirees have begun to purchase longevity annuities, which provide a steady stream of retirement income and provide protection against the risk of a retiree outliving his or her savings. Prior to the IRS’s issuance of the final regulations, an acquisition of these annuity contracts within a qualified retirement plan was problematic. In particular, before the issuance of the regulations, the value of any annuity held in the account of a plan participant was includible in calculating a participant’s RMD. However, if the value of the annuity represented the primary value of the participant’s account, the participant could be faced with the possibility that he/she did not have other funds in his/her account to make the necessary RMD because of the annuity’s fixed payment schedule.
The final regulations provide a solution to this issue. Pursuant to the final regulations, any QLACs purchased on or after July 2, 2014, by a participant in a defined contribution, 403(b), or 457(b) plan or the owner of a non-Roth IRA may be exempted from RMD rules. This means that, so long as the annuity meets the requirements to be a QLAC, the value of the annuity will not be included when calculating RMD payments, thereby eliminating the concern about insufficient funding for RMD payments.
It is important to note that not all longevity annuity contracts will be considered QLACs. To qualify as a QLAC, an annuity must meet seven requirements:
- The annuity must be purchased from an insurance company;
- Annuity payments must begin no later than the first day of the month following the employee’s 85th birthday;
- The annuity contract’s premiums cannot exceed the lesser of 25% of the employee’s retirement plan account balance on the date of the payment or $125,000;
- The annuity contract cannot include any features that would provide for lump sum distribution or cash surrender rights;
- The annuity contract must state that it is intended to be a QLAC;
- Death benefits must meet the requirements laid out in the final regulations, which vary depending on who the beneficiary is and when the spouse dies; and
- The annuity cannot be a variable annuity.
With the enactment of the final regulations, the IRS has provided a new way for retirees to ensure sufficient funding for their retired lives. However, employers sponsoring qualified retirement plans are under no requirement to offer QLACs as part of such plans. Employers considering offering QLACs should weigh the benefit of adding the product to the employer-sponsored retirement plan against the out-of-pocket and administrative cost of making such an offer. For more information on the QLACs, the final regulations can be found, in full, here.