What is a qualified longevity annuity contract (QLAC), and how does it work?

A Qualified Longevity Annuity Contract (QLAC) is a specific type of annuity that is designed to provide a guaranteed stream of income to individuals during their retirement years, with a particular focus on addressing the risk of outliving one's savings. QLACs have certain tax advantages and regulatory features that distinguish them from other annuities. Here's how QLACs work:

1. Eligibility: QLACs are available to individuals who hold tax-advantaged retirement accounts, such as traditional IRAs and 401(k)s. However, there are limits on the amount of funds that can be invested in a QLAC, which are subject to IRS regulations.

2. Purchase: To acquire a QLAC, an individual transfers a portion of their retirement account savings into the contract. The funds used to purchase a QLAC are excluded from the calculation of required minimum distributions (RMDs) during the years the QLAC is funded. This exclusion allows retirees to defer a portion of their RMDs, which can help with retirement income planning.

3. Income Start Date: QLACs are unique in that they are designed to begin providing income at a future date, typically when the annuitant reaches an advanced age, such as 70½ or 85. This deferral period allows the QLAC to provide more substantial income during a period when longevity risk is more significant.

4. Guaranteed Income: Once the income start date is reached, the QLAC begins making regular payouts to the annuitant. These payments can be made monthly, quarterly, or annually, depending on the terms of the contract. The income from a QLAC is generally guaranteed for life, regardless of how long the annuitant lives.

5. IRS Limits: The IRS imposes limits on the amount of retirement account funds that can be used to purchase a QLAC., the limit was set at the lesser of $135,000 or 25% of the account balance, whichever is less. These limits are subject to periodic adjustments by the IRS.

6. Death Benefit: In most cases, QLACs include a death benefit provision that allows any remaining funds from the QLAC to be passed on to beneficiaries after the annuitant's death. However, the specifics of the death benefit can vary by contract, so it's essential to review the terms when purchasing a QLAC.

7. No Cash Refund: Unlike some other types of annuities, QLACs typically do not include a cash refund feature. This means that if the annuitant dies before receiving the full amount of their premium as income, there is no refund to the beneficiary or estate.

8. Taxation: The income received from a QLAC is generally taxable as ordinary income when it is paid out. However, because QLACs are funded with pre-tax retirement account funds, they offer potential tax advantages during the accumulation phase, as the funds used to purchase the QLAC are excluded from RMD calculations.

QLACs can be an attractive option for retirees who want to ensure a guaranteed stream of income that starts later in life, addressing the risk of running out of money in retirement. However, they are not suitable for everyone, and it's crucial to consider your individual financial goals and circumstances before purchasing a QLAC. Consulting with a financial advisor or tax professional can help you determine if a QLAC aligns with your retirement income strategy. Additionally, regulations and limits may change, so it's essential to stay informed about the latest rules regarding QLACs.