A Taxing Situation: A Closer Look at Tax Policy Trends

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Preserving the tax benefits of annuities are a vital tool to help ensure financial security for retirees. Yet, the tug and pull of Washington politics puts these essential benefits in jeopardy, as both the Administration and Congress look to reduce spending and increase revenue to tackle America’s growing deficit issues. Let’s take a closer look at this taxing situation.

A Strong Industry with a Strong Product
Today’s challenging economic times have grown the number of Americans who choose annuities to help provide security for their retirement. There are more than 35 million annuity contracts in force representing over $2.4 trillion in annuities. The annuity market is largely comprised of middle-class people with the average annuity being between $45,000 and $60,000. The higher number represents fixed indexed annuity contracts which have been trending higher than non-indexed fixed annuities for the past decade.

In 2010, life insurance companies paid out over $65 billion in annuity benefit payments providing crucial retirement security to contract holders. Four out of the five top annuity insurers have been in business for over 100 years.  We are dealing with a strong industry with a strong product.

Tax Deferred Status – Still on the Table

Despite these facts, as we meet with key decision makers and policy influencers on the Hill, each of them tell us that the tax deferred status of fixed annuities is “still on the table.”  It is no secret to any of us who follow the news that both the current Administration and Congress are looking in every corner to find available revenue in order to offset the government debt and to pay for new initiatives. 

In Washington D.C., tax deferral on fixed annuities is categorized as “retirement” expenditures.  The meaning is obvious – when Americans keep their money and defer paying taxes, the government calculates it as an expense and any change in tax policy could mean an increase in government revenue. 

Under current tax law, the interest earned in a non-qualified annuity is taxed at distribution as ordinary income, and for qualified plans both premium paid and interest earned is taxed as ordinary income when it is withdrawn.  Additionally, for American couples with adjusted gross income over $250,000 ($200,000 single), the Affordable Care Act added an additional 3.8% on annuity distributions.  And, as most of us know, money withdrawn before age 59½ is subject to an additional 10% federal tax unless an exception applies. That puts us very close to a 40-50% tax rate on income from an annuity depending on your age at distribution.

Meanwhile, comprehensive tax reform is at the forefront of all policy debate, and an overhaul of the entire tax code is under consideration. Policymakers must recognize from the outset that if they changed the current tax treatment of annuities the negative consequences on retirement savings for millions of Americans would be devastating.
Numerous studies have shown that huge retirement savings gaps and longevity risks exist for millions of average Americans. The removal of the favorable tax treatment of annuities would exacerbate these problems.

 Our Leaders Recognize the Benefits of Annuities

A report from the President’s Council of Economic Advisors points out the benefits of annuities, particularly deferred annuities, as a product that can help America workers “mitigate some of the risk” they face in retirement, especially the “risk of outliving assets.” This report encourages the expanded use of annuities. Quite significantly, the report recognizes and accepts that deferred annuities are “utilized due to the tax-advantages.” Additionally, a pending Treasury/IRS proposed rule seeks to facilitate greater use of certain “qualified longevity annuities,” which provide income to retirees of advanced age who would otherwise outlive their assets.

Early this year, the Senate Committee on Health, Education, Labor and Pensions held a hearing titled “Pension Savings: Are Workers Saving Enough for Retirement?” Witnesses from TIAA-CREF, Fidelity Investments, the Women’s Institute for a Secure Retirement, and the Harvard Kennedy School testified. The 90-minute hearing was low key with no partisanship and mainly echoed many of the same themes from similar hearings in the last Congress. In particular, there was general discussion on the following topics: savings gap crisis (women and minorities impacted more), disappearance of Defined Benefit plans, regulatory costs and fiduciary liability deter Defined Contribution plans (no substance on fiduciary discussed), making it easier for employers to offer plans (support for so called “auto IRA”), need Defined Contribution plans for part-time workers, auto enrollment and increasing the default contribution rate.

Of greatest relevance to us were comments by Senators Harkin (D-IA), Isakson (R-GA) and Franken (D-MN) about the importance of lifetime income options and the importance of using annuities to address longevity risks. Chairman Harkin noted that many 401(k) plans do not offer lifetime income stream options. Senators Franken and Isakson both said consumers need more education about annuitization options.

There was mention of the reality that consumers know how much money they have in their Defined Contribution plans, but do not understand how that number translates into an income stream. Senator Franken said, “[W]e need to get people annuities so they do not outlive their savings.” 

It is clear that our legislators understand the need for tax and pension policy that encourages retirement planning and savings. They also appear to understand the unique value of fixed annuities – guaranteed protection from the economic market cycles and a guaranteed paycheck for life. However, we must continue to work hard to educate the younger Hill staffers who help their legislator sift through the hundreds of pages of tax policy discussion, dispel myths that are commonly believed about our industry and our businesses that operate within it, and expose mischaracterization and mistruths about our products and our industry.

On behalf of tens of millions of middle-class American retirees, as well as the thousands of insurance professionals in every state who provide them with fixed annuities and other annuity products, NAFA will continue to influence regulators and legislators to sell the story of fixed annuities to ensure that we preserve their tax advantage and unique benefits. It is indeed “a taxing situation” and one we cannot ignore.  

 Annuities are Essential to Americans

All of us who work in this industry understand that annuities are an essential part of a sound financial plan for millions of Americans because they provide financial security for families and individuals during volatile economic periods, and they can be a vital risk management tool to protect retirees against the possibility of outliving their financial resources. Annuities allow wealth accumulation, protection and income distribution options to meet consumers’ financial objectives. They are unique among financial products in that they are the only product in the financial marketplace that can provide American retirees with a guaranteed lifetime income stream.


Kim O’Brien is NAFA President & CEO. NAFA membership represents over 85% of all premium for fixed indexed, declared rate and income annuities written through the independent distribution system. Kim has over 30 years of experience in the insurance industry beginning as in 1981 as office manager for an insurance agency. In 2002 Kim developed and ran her own marketing organization and received the 2002 Entrepreneur Award from Sun Life. In between, Kim worked as a marketing executive for major insurance companies and was responsible for their annuity and term life insurance product line development, marketing, and training processes. In 1993, Kim served as interim deputy director of the Wisconsin Department of Insurance under Governor Tommy Thomson and served Governor Thompson until a permanent replacement could be found. In July 1992, Kim was the first women in Wisconsin to pass the CFP exam established in 1991 by the CFP Board as a single comprehensive examination modeled after the licensing examinations given to attorneys or Certified Public Accountants (CPAs). Kim O'Brien received her BA from Ripon College, her MFA from the University of Northern Colorado, and an MBA with an emphasis in Economics from Edgewood College, Madison, Wisconsin. In 2008, Kim was accepted into the Juris Doctorate program at the William H. Taft Law School and completed her first year and passed the preliminary California Bar as required before continuing her degree. She has recently re-instituted her studies to begin this summer after a hiatus due to her NAFA workload. As an avid musical theater fan and dancer, Kim has directed or choreographed over 60 shows in Milwaukee and Madison, Wisconsin. She lives with her husband and college sweetheart of 39 years, Kelly, in Phoenix nestled in the Thunderbird Conservatory she enjoys hiking the mountains with their Irish setters.

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