Some provisions of the Small Business Jobs Act of 2010 are not restricted to small companies or to job creation. Instead, they provide more choices for retirees and preretirees.

An annuity alternative

The new law gives individuals the option of annuitizing a portion of an annuity, an endowment, or a life insurance policy. That is, you can partially convert one of these financial instruments to a stream of income while the remainder is left alone. The annuity period must last for 10 years or more, or for the lives of one or more individuals.

Example 1: Carol Thomas, age 70, has invested $100,000 in a deferred annuity. This is a type of investment contract that permits investment income to grow tax free until money is withdrawn. Carol’s deferred annuity is now worth $200,000.

Starting in 2011, Carol can annuitize part of her deferred annuity. She decides to use $100,000 for an annuity that will pay her a fixed amount as long as she lives. The other $100,000 remains in her deferred annuity, where Carol hopes for more growth. At the time Carol makes this decision, her deferred annuity contract consisted of one…half taxable earnings ($100,000) and one…half aftertax dollars she invested. Therefore, half of her cash flow would be tax free until Carol receives a full return of half of her investment: $50,000.

Roth rollovers

The Small Business Jobs Act also allows rollovers from elective deferral plans to Roth~ designated accounts.

  • Elective deferral plans are employer sponsored retirement plans that allow employees to defer some compensation and the tax on that compensation. They include 401(k), 403(b), and 457(b) plans.
  • Designated Roth accounts (DRACs) are employer sponsored plans with many of the same features as Roth IRAs. They are funded with aftertax contributions. After age 59 1/2, and after five years, all DRAC withdrawals are tax free.

To execute a rollover, your company plan must offer DRACs to employees who participate in the retirement plan. Also, you must be entitled to take distributions from your employer’s plan, which typically means that you are at least age 59 1/2 or have left the company, although some plans permit younger employees to take “in service” distributions.

If you qualify, you can execute a rollover immediately. Of course, you’ll owe income tax when you convert pretax money to an aftertax DRAC.

Example 2: Lynn Parker, age 60, works for ABC Corp., where she has $80,000 in her 401(k), all from pretax contributions. Her plan permits Lynn to take distributions from her 401(k). In 2011, Lynn rolls over $80,000 to a DRAC offered by ABC Corp. She will have to report $80,000 of taxable income from the rollover. Beginning January 1, 2016, Lynn can take as little or as much from her DRAC, tax free•

2011 Q1 | More Flexibility in Retirement Planning
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