Life and Death Planning for Retirement Benefits

CHAPTER 11: INSURANCE, ANNUITIES, AND RETIREMENT PLANS

Chapters 10 and 11 deal with the interaction between life insurance and annuity contracts and retirement plans. Chapter 10 covers the special set of “required minimum distribution rules” for immediate annuities purchased in defined contribution plans. Chapter 11 covers life insurance and all other aspects of annuity contracts.

This Chapter explains the tax consequences (to the participant and beneficiaries) of life insurance held inside a retirement plan. ¶ 11.2 explains the income tax rules applicable to the plan participant and his beneficiaries when life insurance is held in a qualified retirement plan (QRP). ¶ 11.3 discusses the choices regarding the policy that arise at the participant’s retirement. See ¶ 11.4 for the estate tax consequences and other planning considerations with respect to plan- owned life insurance. This book discusses plan-owned life insurance only from the perspective of the participant and beneficiaries. Rules that are of concern only at the plan level (such as the limits on how much life insurance may be purchased in a QRP, and ERISA fiduciary investment rules) are beyond the scope of this book. For other sources, see the Bibliography . Similarly, the analysis of insurance products is beyond the scope of this book. The Chapter begins with an assortment of retirement plan tax rules related insurance and annuity contracts ( ¶ 11.1 ) and ends with comments on various planning ideas involving insurance and retirement plans ( ¶ 11.5 ).

11.1 Miscellaneous Retirement/Insurance Rules

This ¶ 11.1 collects miscellaneous retirement plan tax rules related to insurance and annuity contracts. See also ¶ 9.4.07 (exception to the 10% penalty on pre-age-59½ distributions for certain health insurance premiums of an unemployed person).

The three valuation rules for annuity contracts

Strangely, annuity contracts held in a retirement plan or IRA are valued in different ways for different purposes.

Rule #1: Valuation for purposes of required minimum distributions. Reg. § 1.401(a)(9)-6 , A-12(a), explains how an annuity contract held inside a defined contribution (DC) plan is to be valued for RMD purposes. The method described here may NOT be used to value a contract for purposes of a Roth IRA conversion (see Rule #3). Prior to the Annuity Starting Date ( ¶ 10.2.02 ), a variable annuity resembles a mutual fund portfolio held in an annuity “wrapper.” A variable annuity contract, until it is annuitized, behaves like a DC plan. The contract has a cash value which is like an account balance in a DC plan; it fluctuates with investment performance. Not surprisingly, the regulations treat variable annuity contracts according to the DC plan rules for RMD purposes. Reg. § 1.401(a)(9)-6 , A-12(a). The participant determines his RMD with