ARTICLES

 

Evaluating Insurance Companies

How Can I Determine the Financial Strength of My Insurance Company?

 

How do you compare life insurance companies? What features do you examine? What criteria do you use? How do you know what to look for? Making sure that your insurance company is financially sound is an important part of helping to ensure family security.

 

Fortunately, there are a number of independent companies that make these evaluations. These rating companies carefully examine each insurance company in the areas of profitability, debt, liquidity, and other factors. From the results of these examinations, they then issue overall ratings.

 

Looking up a company’s rating will provide you with a snapshot of that company’s financial health. Tracking the company’s rating on a regular basis may give you some advanced warning of trouble.

 

The four most prominent rating companies are A.M. Best, Standard & Poor’s, Moody’s Investors Service, and Fitch Ratings. Each of these services uses slightly different criteria when rating companies. As a result, each

may have a slightly different view of a given company. A.M. Best ratings are based on financial conditions and performance; Moody’s, Fitch Ratings, and Standard & Poor’s ratings are based on claims-paying ability.

 

You should be able to find copies of at least one of these ratings in the reference section of your local library.

If you are unable to find them, or if the ratings in your library are outdated, you can contact the services directly.

All four services will provide ratings over the phone.

 

A.M. Best Company: 908-439-2200, www.ambest.com

 

Standard & Poor’s: 877-772-5436, www.standardandpoors.com

 

Moody’s Investors Service: 212-553-0377, www.moodys.com

 

Fitch Ratings: 800-893-4824, www.fitchratings.com

 

The information in this article is not intended to be tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. © 2012 Emerald Connect, Inc.

Annuities as an Insurance Product

Why Are Annuities Considered an Insurance Product?

 

Annuities are financial vehicles that can be sold only by insurance companies. Basically, an annuity is a contract between you and an insurance company, which promises to pay you a future income in exchange for the lump-sum payment or premiums that you pay. The payments specified in the annuity contract will be paid to you during your retirement (or, in some situations, to your beneficiaries after your death).

 

Annuities can be used to help ensure a steady stream of income in retirement, as well as to help ensure that your spouse and/or designated beneficiary will be taken care of in the event of your death. Many types of annuities exist, and most of them include a death benefit option.

 

If you elect to annuitize your annuity contract, you are choosing to receive your payments on a schedule that can be based on a single or joint life expectancy (for you and your spouse, for example) or for a specified period of time. Once you begin receiving payments, most annuity contracts do not allow money to continue to be made to your heirs, other than your designated joint-life beneficiary, in the event of your death. However, if you die before annuitization begins, your designated beneficiary typically will receive a death benefit at least equal to the net premiums paid.

 

Some annuity contracts may offer refunds or guarantees, allowing your beneficiary to receive the remaining amount upon your death (the accumulated value or premiums paid, whichever is greater).

 

If you would like to use your annuity to help provide for your heirs, make sure to examine the contract closely for specific beneficiary allowances.

 

Generally, annuities have contract limitations, fees, and charges, which can include mortality and expense charges, account fees, underlying investment management fees, administrative fees, and charges for optional benefits. Most annuities have surrender charges that are assessed during the early years of the contract if the contract owner surrenders the annuity. Withdrawals of annuity earnings are taxed as ordinary income and may be subject to surrender charges plus a 10 percent federal income tax penalty if made before you reach age 59½.

 

Withdrawals reduce annuity contract benefits and values. Any guarantees are contingent on the claims-paying ability of the issuing insurance company. Annuities are not guaranteed by the FDIC or any other government agency; they are not deposits of, nor are they guaranteed or endorsed by, any bank or savings association. For variable annuities, the investment return and principal value of an investment option are not guaranteed. Variable annuity subaccounts fluctuate with changes in market conditions; thus the principal may be worth more or less than the original amount invested when the annuity is surrendered.

 

Variable annuities are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the variable annuity contract and the underlying investment options, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.

 

The information in this article is not intended to be tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. © 2012 Emerald Connect, Inc.

Property Ownership

What is the Best Form of Property Ownership for Me?

  In planning your estate, it is customary to consider wills and trusts (as well as intestacy) as a means of property distribution. As a matter of fact, the manner in which you hold title to your assets may supersede provisions contained in other transfer documents. Likewise, significant tax benefits can be gained (or lost) depending on the characterization of your property. Let’s take a look at the general classifications of ownership.

Sole Ownership

Sole ownership occurs when one owns a complete interest in property. Ownership is passed by the typical transfer documents, or by the laws of intestate succession. The complete interest is included in the estate of the decedent. Because of this, the beneficiary receives a full step-up in basis. This, in essence, brings up the original purchase price to the fair market value, thereby eliminating a capital gain.

Joint Tenancy

Joint tenancy exists when two or more persons share equal, undivided interests in property. Joint tenancy is not limited to spouses. Anyone can share joint interests, but there are tax benefits when this arrangement is shared only between husband and wife (qualified joint tenancy). A joint property interest cannot be passed through traditional documents, such as a trust or a will. Ownership of a joint interest passes by “operation of law” to the surviving joint owner(s). Further, property held in joint tenancy will not be subject to probate. Under qualified joint tenancy, half of the property is included in the first decedent’s estate. Because of this, the surviving spouse obtains a stepped-up basis only on the first decedent’s half of the property. If any nonspouses participate in joint ownership, the entire value of the property is includable in the decedent’s estate, reduced to the extent that the estate can prove that the surviving tenant(s) contributed to the cost of the property. Another form of joint ownership — tenancy by the entirety — is similar to joint tenancy, but it can only be created between husband and wife. Unlike joint tenancy, an interest cannot be transferred without the consent of the spouse. Tenancy by entirety is only recognized in certain states.

Tenancy in Common

Tenancy in common provides an undivided interest in property between two or more people. Unlike other forms of joint ownership, however, these interests can be owned in different percentages. A tenant in common can utilize the traditional transfer documents, but interest cannot be passed by operation of law.

Community Property

Under community property statutes, all property earned or acquired by either spouse is owned in equal shares by each spouse. The essential principle of community property is that the earnings of either husband or wife and the revenue from their property belong not to the producer but to the community of the husband and wife. For estate conservation purposes, there are no restrictions on how each spouse can give away his or her half of the community property. There is no law requiring one person to leave his or her half to the surviving spouse, although, of course, many do. Currently, nine states have community property laws: Arizona, California, Idaho, Louisiana, New Mexico, Nevada, Texas, Washington, and Wisconsin. The amount includable in the estate of a decedent is based on his or her percentage of ownership. The beneficiary of the property interest receives a stepped-up basis on that portion of the property. It is important to remember that the beneficiary can be chosen by the decedent. This is in contrast to joint tenancy, under which the surviving joint tenant(s) automatically inherit the interest of the decedent.

The information in this article is not intended to be tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. © 2012 Emerald Connect, Inc.

Controlling the Distribution

How Can I Control the Distribution of My Estate?

There are a number of ways your estate can be distributed to your heirs after your death. Each allows a different degree of control over distribution, and each poses different challenges and opportunities. If you haven’t taken steps already, it’s important to consider planning now for the distribution of your assets.

Intestacy
If you die without a will, it is called dying “intestate.”

In these situations, the probate court will order your debts paid and your assets distributed. Unfortunately, your assets will be distributed according to state law. Since the state doesn’t know your preferences, the probate court may not distribute your assets according to your wishes.

Because intestacy is settled in the probate court, your heirs may have to endure a long, costly, and public probate process that could take six months to a year or more. They will have to wait until the probate process is over to receive the bulk of their inheritance.

And depending on the state, probate fees could consume more than 5 percent of your gross estate.

Wills
A will is your written set of instructions on how you would like to distribute your estate upon death.

While using a will guarantees probate, it is a more desirable alternative than intestacy.

In a will, you can name a “personal representative” of your estate. This person or institution (e.g., a bank or trust company) will act as the executor and will be appointed to carry out your wishes according to your testament. You can also nominate a guardian for your minor children and their estates. Without such a nomination, the court can appoint a guardian based on other information, often depending upon who volunteers.

A will can also set forth the terms of a trust of which you have named a trustee who can manage the assets for the benefit of the beneficiaries. This is often referred to as a “testamentary” trust because it is created as part of the last will and testament and comes into being at the probate of the will.

Trusts
A trust is a legal arrangement under which one person, the trustee, manages property given by another party, the trustor, for the benefit of a third person, the beneficiary. Trusts can be very effective estate planning tools.

Trusts can be established during your life or at death. They give you maximum control over the distribution of your estate. Trust property will be distributed according to the terms of the trust, without the time, cost, and publicity of probate.

Trusts have other advantages too. You can benefit from the services of professional asset managers, and you can protect your assets in the event of your incapacity. With certain types of trusts, you may also be able to reduce estate taxes.

While trusts offer numerous advantages, they involve up-front costs and ongoing administrative fees. These costs reduce the value of future probate savings.

If you use a revocable living trust in your estate plan, you may be the trustor, trustee, and beneficiary of your own trust. This allows you to maintain complete control of your estate. The use of trusts involves a complex web of tax rules and regulations. You might consider enlisting the counsel of an experienced estate-planning professional before implementing such sophisticated strategies.

Joint Ownership
Another way to distribute your estate is through jointly held property — specifically, joint tenancy with rights of survivorship.

When you hold property this way, it will pass to the surviving co-owners automatically, “by operation of law.” Because title passes automatically, there is no need for probate.

Joint tenancy can involve any number of people, and it does not have to be between spouses. “Qualified joint tenancy,” however, can only exist between spouses. In common law states, this arrangement is generally known as “tenancy by the entirety.” Qualified joint tenancy has certain income and estate tax advantages over joint tenancy involving nonspouses.

How you hold title to your property may have substantial implications for your income and estate taxes. You should consider how you hold title to all of your property, including your real estate, investments, and savings accounts. If you’d like to know more about how the way you hold title may affect your financial situation, consult a professional.

Contracts
The fifth and final way to pass your property interests is through beneficiary designations.

If you have an employer-sponsored retirement plan, an IRA, life insurance, or an annuity contract, you probably designated a beneficiary for the proceeds of the contract. The rights to the proceeds will pass automatically to the person you selected. Just like joint tenancy, this happens automatically, without the need for probate.

It is important to review your employer-sponsored retirement plan, IRA, life insurance, and other contracts to make sure your beneficiary designations reflect your current wishes. Don’t wait until it’s too late.

Many Considerations
There are a variety of considerations that will determine the distribution methods that are appropriate for you. For example, you must consider your distribution goals. By examining your situation and understanding how your assets will pass after your death, you may be able to identify the methods that will help you achieve your goals most effectively.

Likewise, the larger your estate, the more you may want to consider using a trust to help guide your estate distribution. In addition, you will have to consider any special situations you may have — such as a divorce or a disabled child. All these are important considerations.

Planning Options

What Are My Retirement Planning Options?

 

There are a variety of retirement planning options that can meet your needs. Your employer funds some; you fund some. Bear in mind that in most cases, withdrawals made before age 59½ are subject to a 10 percent penalty, and withdrawals usually must begin by April 1 of the year after you turn age 70½. Income taxes are also due upon withdrawal in most cases. This list describes 10 of the most common options.

 

defined benefit pension normally provides a specific monthly benefit from the time you retire until you die. This monthly benefit is usually a percentage of your final salary multiplied by the number of years you’ve been with the company. Defined benefit pensions are usually funded completely by your employer.

 

money purchase pension provides either a lump-sum payment or a series of monthly payments. The size of this benefit depends on the size of the contributions to the plan. Your employer normally funds money purchase pension plans, although some will allow employee contributions.

 

Your employer funds a profit-sharing plan; employee contributions are usually optional. Upon your retirement, you will normally receive your benefit as a lump sum. The company’s contributions — and thus your retirement benefit — may depend on the company’s profits. If a profit-sharing plan is set up as a 401(k) plan, employee contributions may be tax deductible.

 

savings plan provides a lump-sum payment upon your retirement. The employee funds savings plans, although employers may also contribute. Employees may be permitted to borrow a portion of vested benefits. If a savings plan is set up as a 401(k) plan, employee contributions may be tax deductible.

 

Under an employee stock ownership plan (ESOP), an employer periodically contributes company stock toward an employee’s retirement plan. Upon retirement, employee stock ownership plans may provide a single payment of stock shares. Upon reaching age 55, with 10 or more years of plan participation, you must be given the option of diversifying your ESOP account up to 25 percent of the value. This option continues until age 60, at which time you have a one-time option to diversify up to 50 percent of the account.

 

Tax-sheltered annuities or 403(b) plans are offered by tax-exempt and educational organizations for the benefit of their employees. Upon retirement, employees have a choice of a lump sum or a series of monthly payments. These plans are funded by employee contributions, and these contributions are tax deductible.

 

Individual retirement accounts are available to virtually any wage earner at any salary, up to certain income limits. They are funded completely by individual contributions. IRAs are usually held in an account with a bank, brokerage firm, insurance company, mutual fund company, credit union, or savings association. They provide either a lump-sum payment or periodic withdrawals upon retirement. There are two basic types of IRAs: traditional and Roth. Contributions to traditional IRAs may be tax deductible and are taxed upon withdrawal, whereas contributions to Roth IRAs are not tax deductible but qualified withdrawals are tax-free.

 

Self-employed plans were specifically designed for self-employed people. They are funded completely by wage-earner contributions and provide either a lump-sum payment or periodic withdrawals upon retirement. Self-employed plans have the same investment opportunities as IRAs. Contributions to self-employed plans are tax deductible within certain generous limitations. No distinction is generaly made between pension, profit-sharing and other retirement plans established by corporations and those established by individual proprietors and partnerships. In the past, the term “Keogh plan” or “H.R. 10 plan” were used to distinguish a retirement plan established by a self-employed individual from a plan established by a corporation or other entity. However, self-employed retirement plans are now generally referred to by the same name that is used for the particular type of plan such as, SEP IRA, SIMPLE 401(k), or self-employed 401(k).

 

Simplified employee pensions, or SEPs, were designed for small businesses. Like IRAs, they can provide either a lump-sum payment or periodic withdrawals upon retirement. Unlike an IRA, the employer primarily funds them, although some simplified employee pensions do allow employee contributions. SEPs are usually held in the same types of accounts that hold IRAs. Employee contributions — in those SEPs that allow them — may be tax deductible.

 

Savings Incentive Match Plans for Employees, or SIMPLE plans, were designed for small businesses. They can be set up either as IRAs or as deferred arrangements — 401(k)s. The employee funds them on a pre-tax basis, and employers are required to make matching contributions. Principal and interest grow tax deferred.

 

Strictly speaking, annuity contracts are not qualified retirement plans. But they do provide tax-deferred growth like qualified retirement plans. They are also subject to withdrawal conditions very similar to qualified retirement plans, but there are no contribution limits. They can be used very effectively to supplement your employer-provided retirement plan.

 

Generally, annuities have contract limitations, fees, and charges, which can include mortality and expense charges, account fees, underlying investment management fees, administrative fees, and charges for optional benefits. Most annuities have surrender charges that are assessed during the early years of the contract if the contract owner surrenders the annuity. Withdrawals of annuity earnings are taxed as ordinary income and may be subject to surrender charges, plus a 10 percent federal income tax penalty if made prior to age 59½. Withdrawals reduce annuity contract benefits and values. Any guarantees are contingent on the claims-paying ability of the issuing company. Annuities are not guaranteed by the FDIC or any other government agency; they are not deposits of, nor are they guaranteed or endorsed by, any bank or savings association. For variable annuities, the investment return and principal value of an investment option are not guaranteed. Variable annuity subaccounts fluctuate with changes in market conditions; thus, the principal may be worth more or less than the original amount invested when the annuity is surrendered.

 

Variable annuities are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.

 

Retirement Plan Taxes

When Must Taxes Be Paid on IRA and Employer Sponsored Retirement Funds?

 

Traditional IRAs and most employer-sponsored retirement plans are tax-deferred accounts, which means they are typically funded with pre-tax or tax-deductible dollars. As a result, taxes are not payable until funds are withdrawn, generally in retirement.

 

Withdrawals from tax-deferred accounts are subject to income tax at your current tax rate. In addition, withdrawals taken prior to age 59½ are subject to a 10% federal income tax penalty.

 

If you made nondeductible contributions to a traditional IRA, you have what is called a “cost basis” in the IRA. Your cost basis is the total of the nondeductible contributions to the IRA minus any previous withdrawals or distributions of nondeductible contributions. The recovery of this basis is not seen as taxable income.

 

Exceptions are the Roth IRA and the Roth 401(k) and Roth 403(b). Roth accounts are funded with after-tax dollars; thus qualified distributions (after age 59½ and the five-year holding requirement has been met) are free of federal income tax.

 

Traditional IRAs, most employer-sponsored retirement plans, and Roth 401(k) and 403(b) plans are subject to annual required minimum distributions (RMDs) that must begin after the account owner reaches age 70½ (no later than April 1 of the year after the year in which the owner reaches age 70½). Failure to take RMDs triggers a 50% federal income tax penalty on the amount that should have been withdrawn. Roth IRA owners never have to take RMDs; however, Roth IRA beneficiaries do have to take RMDs.

 

When you begin taking distributions from your retirement accounts, make sure to note any required beginning dates and the appropriate distribution amount in order to avoid unnecessary penalties.

SIMPLE IRAs

What Is a SIMPLE?

 

There are many types of employer-sponsored retirement plans. One that may appeal to small businesses and to self-employed individuals is the savings incentive match plan for employees of small employers (SIMPLE) because, as the name implies, it is easy to set up and administer, and employers are allowed to take a tax deduction for the contributions that are made.

 

SIMPLEs can be established by small businesses that have 100 or fewer employees(who were paid at least $5,000 or more in compensation during the previous year) and do not maintain other retirement plans. They can be structured as an IRA for each eligible individual or as part of a qualified cash or deferred arrangement such as a 401(k) plan. Typically, they are structured as SIMPLE IRAs.

 

Eligible employees (those who earned at least $5,000 in the preceding year) can make pre-tax contributions to their plans each year. Participants may contribute 100% of their salaries up to $11,500 in 2012. Those who are 50 or older during the year can elect to make $2,500 catch-up contributions. These amounts are indexed annually for inflation.

 

Administrators of SIMPLE IRAs are required to make either matching contributions equal to employee contributions (up to 3% of employee salaries) or nonelective contributions, which set a flat 2% contribution rate for all eligible employees. Employees are immediately 100% vested in contributions made by the employer, and they direct their own investments.

 

Distribution rules are similar to most IRA plans. Withdrawals are taxed as ordinary income and are also subject to a 10% federal income tax penalty if withdrawn prior age 59½, unless there are extenuating circumstances as outlined by the IRS. Required minimum distributions also must begin after the participant reaches age 70½.

 

An additional rule for SIMPLE plans is that there is a two-year waiting period after the date when an employee enrolls in the plan to transfer contributions to another IRA on a tax-deferred basis. Any withdrawals taken during the first two years of an employee’s participation in the plan are subject to a 25% tax penalty in addition to ordinary income taxes. After the first two years, early withdrawals are generally subject to the 10% early-withdrawal penalty prior to age 59½. Of course, the IRS sometimes allows exceptions under special circumstances.

 

SIMPLE IRAs may be a good choice for small-business owners because the responsibility for funding the plan is shared between the employer and the employee. The start-up and maintenance costs also may be lower than for other qualified plans. If you are considering whether to establish a retirement plan for your business, you may want to make it SIMPLE.

Charitable Gifts

Understanding Charitable Giving

 

How Can My Charity and I Both Benefit from My Gift?

You could receive an immediate income tax deduction. With a properly structured gift, you could realign your investment portfolio without paying capital gains tax on appreciated property. Another strategy may allow you to pass your estate on to your children while avoiding both probate and estate taxes.

You’re free to give your property to whomever you choose. To retain the tax advantages associated with planned giving, however, your gift must be made to a qualified organization.

The vast majority of donations are made to charitable organizations. To qualify, a charitable organization must have been organized in the United States, be operated on a strictly non-profit basis, and not be politically active.

In addition to common charitable organizations, you may give to veterans’ posts, certain fraternal orders, volunteer fire departments, and civil defense organizations.

You can contribute almost anything to a qualified organization. The deduction limits are more restrictive for gifts other than cash, but you are free to give almost any property of value.

 

What Are Some Gifting Strategies?

In addition to making an outright donation, there are a number of different gifting techniques you can use.

You can give life insurance. This enables you to give a large future gift at a relatively modest cost.

Making a planned gift can provide some significant benefits.

A charitable contribution may qualify you to receive a significant current income tax deduction.

Your deduction for an outright gift will equal the value of your gift up to certain limits. You can carry forward any gift amount that exceeds these limits for up to five years.

With a charitable lead trust, the trustor  places assets in the trust, which pays an income to the charity. At the end of the trust period, the remaining assets are paid to the trustor or the trustor’s heirs. This can help reduce, or in some cases even eliminate, estate taxes on appreciated assets that eventually go to the grantor’s heirs.

By using a charitable remainder trust, the trustee can sell highly appreciated gifted investments and reinvest the proceeds to generate income without incurring a capital gains tax liability. Thus, a properly planned gift could enable you to realign your investment portfolio, allow you to diversify your holdings, and even increase your cash flow. You may also qualify for a current income tax deduction on the estimated present value of the remainder interest that will eventually go to charity.

One thing you can’t do is take back your gift. You can’t start selling assets and then pocket the money. But you can change the charity that will eventually receive your gift.

Whatever gifting strategy you choose, planned giving can be very rewarding. It’s wonderful to see your gift at work and to receive tax benefits as well.

The use of trusts involves a complex web of tax rules and regulations. You might consider enlisting the counsel of an experienced estate planning professional and your legal and tax advisors before implementing such strategies.

Stretch IRAs

What Is a “Stretch” IRA?

 

Finding a method to leave a lasting legacy to your loved ones without increasing their tax burdens can be difficult and complicated. A “stretch” IRA may be a useful approach that can benefit your heirs for generations to come.

 

A stretch IRA is not a special type of IRA but rather a term frequently used to describe this IRA strategy, also known as a “multigenerational” IRA, that can be used to extend the tax-deferred savings on inherited IRA assets for one or more generations to benefit future beneficiaries.

 

Here’s how it works. You let the funds accumulate in the IRA as long as possible. You name as beneficiary someone younger, perhaps a son or daughter. When you have to start taking required minimum distributions (RMDs) from your traditional IRA after turning age 70½, you take only the minimum annual amount required by the IRS each year. (If you fail to take a minimum distribution, you could be subject to a 50% income tax penalty on the amount that should have been withdrawn.)

 

When your beneficiary inherits your IRA, he or she might also have the ability to take required minimum distributions (RMDs) based on his or her life expectancy. (RMDs are calculated each year and must begin no later than December 31 of the year following your death.) In this way, your beneficiary would have the potential to stretch the distributions over his or her own lifetime, which enables the funds to continue compounding tax deferred for a longer period and avoids a large initial tax bill. Your beneficiary can also name a beneficiary, who can potentially stretch the distributions even longer.

 

There is a limit to how long you can “stretch” an IRA. The IRS doesn’t want to postpone taxes indefinitely. The distribution period cannot extend beyond the first-generation beneficiary’s life expectancy. For example, if you designated your son to be the sole beneficiary of your IRA and he was 40 when you died (and you hadn’t yet reached the age for taking RMDs), he could take RMDs based on his 37.6-year life expectancy, starting the year after you died. If he died 20 years later, his designated beneficiary could continue taking minimum distributions based on what would have been your son’s remaining life expectancy (20.8 years).

 

Of course, nonspouse beneficiaries of IRAs face some hurdles. There are different sets of rules to determine the RMDs that a non-spouse beneficiary must receive. They depend on whether the original account owner died before, on, or after reaching the required beginning date for RMDs. Not only are these rules complex, but they can have far-reaching implications. Spousal beneficiaries of IRAs have more options than non-spouse beneficiaries.

 

If you have a desire to extend your financial legacy over future generations and don’t need the IRA assets for income during your lifetime, then this strategy may be appropriate for you. Because many tax and distribution rules must be followed, make sure to seek legal or tax counsel before making any final decisions.

 

Note: Make sure the provisions in your IRA allow beneficiaries to take distributions over their lifetimes and to name second-generation beneficiaries. Distributions from traditional IRAs are taxed as ordinary income. Distributions prior to age 59½ are subject to a 10% federal income tax penalty (this rule does not apply to IRA beneficiaries, who must begin taking minimum distributions no later than December 31 of the year following the original owner’s death). Beneficiaries also have the flexibility to take out more than the minimum distribution at any time.

 

Self-Employed Retirement Plans

What Is a Self-Employed Retirement Plan?

 

A self-employed retirement plan is a tax-deferred retirement savings program for self-employed individuals. In the past, the terms “Keogh plan” or “H.R. 10 plan” were used to distinguish a retirement plan established by a self-employed individual from a plan established by a corporation or other entity. However, self-employed retirement plans are now generally referred to by the name that is used for the particular type of plan such as, SEP IRA, SIMPLE 401(k), or self-employed 401(k).

 

Self-employed plans can be established by any individual who is self-employed on a part-time or full-time basis, as well as by sole proprietorships and partnerships (who are considered “employees” for the purpose of participating in these plans).

 

Unlike IRAs, which limit tax-deductible contributions to $5,000 per year (in 2012), self-employed plans allow you to save as much as $50,000 of your net self-employment income in 2012, depending on the type of self-employed plan you adopt.

 

Contributions to a self-employed plan may be tax deductible up to certain limits. These contributions, along with any gains made on the investments within the fund, will accumulate tax deferred until you withdraw them.

 

Withdrawal rules mirror those of other qualified retirement plans. Distributions are taxed as ordinary income and may be subject to an additional 10% federal income tax penalty if taken prior to age 59½. Self-employed plans can typically be rolled over to another qualified retirement plan or to an IRA. Annual minimum distributions are required after the age of 70½. Unlike the case with other qualified retirement plans, hardship distributions are not permitted with a self-employed plan.

 

You can open a self-employed plan account through banks, brokerage houses, insurance companies, mutual fund companies, and credit unions. Although the federal government sets no minimum opening balance, most institutions set their own, usually between $250 and $1,000.

 

The deadline for setting up a self-employed plan is earlier than it is for an IRA. You must open a self-employed plan by December 31 of the year for which you wish to claim a deduction. However, you don’t have to come up with your entire contribution by then. As with an IRA, you have until the day you file your tax return to make your contribution. That gives most taxpayers until April 15 to deposit their annual retirement savings into a self-employed plan account.

 

Each tax year, plan holders are required to fill out Form 5500, for which they may need the assistance of an accountant or tax advisor, incurring extra costs.

 

If you earn self-employment income, a self-employed plan could be a valuable addition to your retirement strategy. And the potential payoff — a comfortable retirement — may far outweigh any extra costs or paperwork.

 

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