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It’s IRA season: What you need to know about year-end contributions


How to make your final contributions and ensure your independent retirement account assets are optimally invested.

Contributing to a standard IRA or Roth IRA by April 15 is your opportunity to cut 2021 income taxes with a standard IRA or get tax-free growth with a Roth, assuming you’re eligible.

It’s also a great time to review how you are investing all of your IRA funds to see if there are better options available. Revisit your asset allocation and consider rebalancing if you’re too concentrated in equities.

By expanding your horizons, you may craft an investment strategy that will give you better growth without exposing you to unacceptable risk.

I won’t cover well-known strategies, such as domestic and foreign equities, bonds, CDs, and commodity ETFs. All of these can fill a valuable role in a diversified portfolio to keep ahead of inflation. I’ll stick to my expertise, annuities, and cover why they can be a valuable addition to your IRA plan and asset allocation.

Annuities cannot all be lumped into one category. Some annuities let you invest your assets in stock funds. Some behave like certificates of deposit. Some provide a guaranteed stream of lifetime income. Some combine growth potential without downside market risk. I won’t cover variable annuities because I believe they’re not optimal for IRAs.

Unlike variable annuities, fixed annuities all guarantee principal or income. Underwritten by life insurers, they have one thing in common: you won’t lose money in them due to market downturns. That’s because the issuing insurance company bears all of the investment risk. None of them can give you the kind of eye-popping returns you might get from growth stocks, but you eliminate the downside.

Fixed-index annuity:upside potential without downside

This is the only financial product that offers market-based growth potential while still guaranteeing your principal. Fixed-indexed annuities are a distinct asset class, as they have some characteristics of both equities and fixed income investments.

They pay a share of the gain as an annual interest rate credit when the stock market goes up. In exchange for the guarantee that you’ll never lose money, you may get only part of the market’s annual gain as measured by an index such as the Dow Jones Industrial Average or S&P 500.

If the market index is negative for the year, you’ll typically get no interest.

Experts expect the product to produce long-term returns that exceed that of bonds or fixed-rate annuities while trailing equity returns but without market risk and volatility. You need to be willing to withstand some interest-rate uncertainty.

Optional guaranteed lifetime-income and/or withdrawal-benefit riders are commonly available for an additional fee.

Indexed annuities have lots of positives, and sales have boomed. A have-your-cake-and-eat-it-too approach is appealing.

One drawback is complexity. It takes work to understand them and pinpoint which one might be the best deal for you. Additionally, they’re designed to work over the long-term, not for short-term needs—and that’s one reason why they can work well in IRAs.

The other drawback is that you won’t get all the upside when markets boom. These annuities have various caps and participation rates that limit upside. Some insurers offer better deals than others, and it’s challenging to make apples-to-apples comparisons. More information can be found here.

Deferred income annuity (DIA) can provide guaranteed lifetime income

A DIA defers income payments to a future date you choose. It can provide guaranteed lifetime income after an initial holding period of anywhere from two to 40 years.

The main disadvantage of income annuities is that you no longer own the cash value. You give that up in return for a promise of future income.

You can choose an income annuity with a limited payout term, such as 15 years, but most people choose the lifetime option. This option gives you longevity insurance. Income payments can optionally be guaranteed jointly with the life of your spouse as well.

A DIA can work well as an IRA, but make sure your income payments begin no later than age 72 to comply with required minimum distribution (RMD) rules. If you want to defer income payments past that age, consider a qualified longevity annuity contract (QLAC).

QLAC defers RMDs for greater future income

The QLAC is an IRA DIA designed to meet IRS requirements. You don’t need to take required minimum distributions on the assets in a QLAC. It’s the only way you can legally delay RMDs for a portion of your standard IRA funds and thus keep more money in your IRA longer.

You can invest up to 25% ($135,000 maximum) of your IRA money in a QLAC. You can delay taking RMDs on the QLAC as late as age 85, instead of having to take them starting at 72 as you would with a standard IRA.

Since you’ll be relying on the insurer to pay crucial future income, choose a financially strong company.

Immediate income annuity can fulfillRMDs

If you’re over 72, an immediate annuity can help with your RMDs. You can choose guaranteed lifetime income or a limited term not to exceed your life expectancy.

An immediate annuity converts an asset to income efficiently, but in return, you have little or no ability to change the income stream once it starts.

Some retirees don’t like the idea of illiquidity. But it is very hard to obtain the same level of guaranteed lifetime income any other way if you need immediate income.

Fixed-rate annuities can outperform bank CDs and bond funds

The fixed-rate annuity is sometimes called a CD-type annuity. Its formal name is the multi-year guaranteed annuity, orMYGA—a tongue-twister of a name for a simple product.

Like a bank certificate of deposit, it guarantees a set interest rate for two to ten years. MYGAs usually pay substantially higher rates than CDs with a comparable term. For current rates, see this chart

These annuities offer great advantages for the fixed-income part of your portfolio—especially if you need to rebalance. They offer higher current yields than most bond funds or ETFs. And you can’t lose market value with them as you can with a bond fund or ETF. The drawback is less liquidity.

You can renew an MYGA for an additional guarantee period at the end of each term. Or you may eventually choose to annuitize it: convert it to a guaranteed stream of income for a set number of years or your lifetime.

As with CDs, you’ll be penalized if you make excessive withdrawals before the term ends. Unlike CDs, these annuities are not guaranteed by federal deposit insurance, so it’s wise to choose a financially strong insurer. State guaranty associations, however, do provide a good level of backup protection for annuity owners up to certain limits.

Ken Nuss is the founder and CEO of AnnuityAdvantage, a leading online provider of fixed-rate, fixed-indexed, and lifetime income annuities. He’s a nationally recognized annuity expert and author. A free rate comparison service with interest rates from dozens of insurers is available at https://www.annuityadvantage.com or by calling (800) 239-0356.

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