Use an Immediate Annuity/Life Insurance Combo to Transfer Your IRA to Heirs

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immediate annuity transfer

Are you planning to transfer your Individual Retirement Account (IRA) assets to your spouse or children after your death? If so, beware: you may think your heirs will “stretch” the distributions out over their own life expectancies, but they may prefer a lump-sum payment-minus the 30 to 70 percent they?ll owe in income and estate taxes. You have another option, one that involves an immediate annuity and a life insurance policy.

First, you withdraw your IRA assets and deposit them in an immediate annuity (these withdrawals are a taxable event). With an immediate annuity, as you probably know, you make one payment, and the income stream begins immediately. That income stream is mostly tax-free, thanks to the IRS’ “exclusion ratio rule.” Now that may sound like a pretty good deal in and of itself. The problem: if you die tomorrow, the income stream stops. You won’t care, but your heirs might, because they won’t get anything more from the annuity.

That’s where the second part of the equation comes in. Instead of keeping the entire income stream, you could deposit a portion of it in a life insurance policy which will provide your heirs with a death benefit in the amount of your initial annuity investment.

Let?s look at a hypothetical example. Suppose you?re a 75-year-old man. You withdraw $100,000 from your IRA, and deposit it in an immediate annuity. In exchange, you?ll receive an income stream each per year for the rest of your life-tax-free. That income stream will depend on a number of factors, but according to AnnuityShopper.com as of September 2006, it would be $957 per month, or $11,484 per year for a 75-year-old male.

Now, instead of keeping that entire income stream, let’s say you deposit part of it (say $5,000) into a life insurance policy that will provide your heirs with a $100,000 tax-free death benefit.

The result: You’ll have an income stream of $7,000 per year, and the life insurance policy will provide your heirs with the amount of your original IRA assets-tax-free.

Of course, this example is hypothetical, and was created for illustrative purposes only. It is not meant to represent the performance of any particular product. All investments involve risk, including the possible loss of principal.

Your think the cost of life insurance will be too high for this strategy to make sense, since you’re older and possibly in poorer health than you used to be. But if the cost of your life insurance is high because you?re in poor health, then the immediate annuity payout could potentially be higher as well. As long as you can qualify for some level of life insurance-and granted, some people simply cannot-this may be a strategy to consider.

There are some caveats, however. First, the strategy isn?t entirely tax-free, as you’ll have to pay taxes on the money you withdraw from your IRA. And second, once you turn your IRA into an immediate annuity, you?ll no longer have access to the principal, so it’s important that you have ample savings elsewhere to provide for your various needs.

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