Annuities in Moneytree Plan typically entered as either Tax-Deferred Assets or as Other Income. Adding annuities to a plan is easy and even complex annuities can be modeled with Moneytree Plan’s powerful features.
Annuity Accumulation Phase : Tax Deferred Asset
Assign the Tax-Deferred asset type to non-qualified deferred annuities which are still in the accumulation phase. Tax-Deferred has its own illustration report page which shows the collective details and performance of tax-deferred assets in the scenario.
Tax-Deferred cost basis in Moneytree Plan is assumed to be after-tax money. The cost basis portion of the asset will not be taxed on withdrawal. Taxable Accrued Interest is calculated as: Total Value – Cost Basis. It represents the cumulative taxable interest earned over the life of the annuity. These assets are LIFO (last-in first-out). The program withdraws from Taxable Accrued Interest before the non-taxable cost basis portion.
Moneytree Plan makes the assumption that early withdrawals from tax-deferred assets are not subject to a penalty tax. If a penalty tax is appropriate in your scenario, you can enter 10% of the early withdrawal amount in the Tax Details section under Other Federal Tax or (Credit) for the year of the withdrawal.
Qualified plan deferred annuities in the accumulation phase should be assigned the Retirement Plan asset type. Early withdrawals from Retirement Plan assets are subject to a penalty tax by default. This behavior can be toggled with a checkbox located at Assumptions > Other > Retirement Plan Options.
Annuity Payout Phase: Other Income
Add annuities in the payout phase as Other Income. This income should not have an increase rate entered unless the annuity has inflation riders or other special features. The exclusion ratio of an annuity payout goes in the Percent Taxable field and should typically be calculated as: Accrued Interest / Total Value.
For finer control over timing, use the Future Change table. Add one entry for the first year of the payout, and a second zero amount entry in a later year to stop the payout. Future Change ages are always in terms of individual 1’s age. This is true even if individual 1 is deceased or individual 2 is the annuity owner. In most annuities, payments will end at owner death but they can end in other years if the annuity is fixed term, period certain, joint life and survivor, or has certain other features.
Purchase of a single premium immediate annuity during a plan is treated as Other Income like above with the cost of the annuity entered as a one-time Other Expense.
Both Accumulation and Payout Phases: Annuitization during a plan
Both of the previous methods are necessary to properly model annuitization during a plan. This means using both a Tax-Deferred asset for accumulation and an Other Income with a later start date to kick off the payout phase for the same annuity. Be careful here not to double count annuity capital!
When a client trades the cash value of an annuity for an income stream, that cash value should no longer be part of retirement capital in the plan. AVOID withdrawing the entire cash value of a tax-deferred asset to model annuitization. Moneytree Plan treats this as a full surrender of the annuity with corresponding cash flow and tax implications.
Instead, the easiest way to avoid double counting an annuity in this situation is to uncheck the “Available for Withdrawal” asset box. Assets unavailable for withdrawal will still show up as client net worth in reports, but will not be available as retirement capital.
Illustrating Guaranteed Minimum Returns in Accumulation
Some kinds of equity indexed or variable annuities guarantee a minimum rate of return or at least a return of principal during the accumulation phase. To illustrate guarantees like this, create a few educational scenarios like these for comparison:
- A base scenario with typical rate of return assumptions for all assets.
- The base scenario with your annuity asset rate of return lowered somewhat by the costs/fees of the minimum guarantee (other asset returns stay at a typical level).
- A worst case scenario with very low/negative rate of return for riskier assets including annuities without guarantees.
- The worst case scenario with annuity asset returns at the bare minimum of the contract’s guarantee (other asset returns stay at a very low level).
It’s important not to overstate the likelihood of a worst case scenario when making comparisons like this about guarantees. Always take into account your client’s risk tolerance and time horizon when discussing how investments like annuities fit in their financial plan.