A number of tax-saving opportunities are available for preserving your wealth, allowing you to accumulate more money for your retirement, your business,, your lifestyle, or for your heirs. Please read the following two tax tips carefully, and if interested, consider having a discussion about them with your financial planner so you can retain as much of your wealth as possible.

Tax Tip #3: Nonqualified Tax Deferred Annuities:

Consider smoothing your income through a deferred annuity. In those years when your income places you in the higher tax brackets, and if you invest in a deferred annuity, you can reduce your taxable income and possibly reduce both your income taxes and your NIIT (net investment income tax).

Deferred annuities are useful tools and are often used to provide or supplement retirement savings. Deferred annuities are not qualified retirement plans but they do receive preferential tax treatment. Earnings on deferred annuities accumulate tax-free until funds are withdrawn.

Deferred annuities can be either fixed or variable. A fixed annuity pays a guaranteed fixed interest rate. Variable annuities offer the annuity owner the choice of several investment options on the rates of return.

Distributions of your annuity payments are subject to an exclusion ratio which divides the distribution into a taxable portion and, separately, a tax-free recovery of basis. Fixed and variable annuities have different exclusion ratio calculations.

Even though the income from annuity payments is taxed as ordinary income when withdrawn, this investment vehicle still offers you the favorable tactic of removing taxable income in your higher tax bracket years and deferring your taxation to when you’re in your lower tax bracket years.

The tax benefits of having a nonqualified tax deferred annuity are:

1. You can have an additional income stream after you retire

2. Your earnings grow tax-deferred until you make withdrawals

3. You’re not required to make minimum distributions at age 70½

When choosing to have a nonqualified tax-deferred annuity as one of your investment and retirement strategies, you should review your options for receiving your annuity’s funds in later years. You have three choices:

1. You can receive your funds in a lump sum payment, but this might result in a hefty tax liability, particularly if it pushes you back into a higher tax bracket

2. You can choose to receive fixed payments for the rest of your life

3. You can also choose to receive a fixed amount for a specific period of time

By choosing one of the fixed payment alternatives, your tax liability will be spread out over time, which may be to your advantage and help keep you in the lower tax brackets so you preserve more of your wealth.

A nonqualified tax-deferred annuity could be just the right device to help you to further reduce your taxes and limit Uncle Sam’s pinch.

Tax Tip #4: Borrow from Your Permanent Life Insurance Policies:

Taxpayers who purchase a life insurance policy when they are in a high tax bracket year can borrow from the policy when they are in a low tax bracket year and need extra funds. This way, income can be shifted so taxable income is preserved from taxation, and if funds are necessary later in life, distributions from the permanent life insurance policy can be tapped at a lesser tax rate if the holder is in a lower tax bracket.

A permanent life insurance policy is necessary for this strategy because a permanent policy accrues cash value. The holder of a permanent life insurance policy who needs funds could borrow from the cash surrender value. Borrowing is limited to the amount of the cash surrender value.

Advantages to the policyholder include:

1. Shifting funds that may have otherwise increased taxable income and thus increased taxes

2. Helping the policyholder avoid being situated in a higher tax bracket and being subject to the net investment income tax (NIIT)

3. Receiving income in later years without selling taxable assets and relocating back into a higher tax bracket

4. Having some degree of security knowing that income is available when required and, presumably, at a lower tax rate

5. In most cases, the funds borrowed from the policy are not taxable. (There are some exceptions to this benefit which should be clarified before taking a loan.)

As enticing as this scenario appears, borrowing from the permanent life insurance policy creates factors that must be carefully considered.

1. A variable life policy’s death benefit is reduced by the amount of the loan, but is restored as the loan is repaid.

2. Future premiums by the life insurance company may be increased to compensate the company for its loss of anticipated cash accumulation.

3. The insurance company could charge the taxpayer interest for borrowing the funds. If so, the interest would be added to the amount of the loan.

4. It’s possible that the insurance company will reduce the interest rate earned on the cash value of the policy.

5. Interest paid for the policy loan is not deductible, which increases the cost of the loan.

A policyholder is not required to repay the loan. Should the policy terminate or the policyholder die, the proceeds of the life insurance policy are reduced by any outstanding loan indebtedness.

A policyholder can always surrender his or her policy to the company and receive the cash surrender value, less any unpaid loan and interest. If the policyholder either surrenders the policy or lets the policy lapse, any income will be taxed at the taxpayer’s current income tax rate.

Reducing taxable income during high tax bracket years and keeping the funds in a permanent life insurance policy as an available resource if needed could be an effective tool for guarding your wealth and having a ready source of income upon demand.

We hope this article about reducing your taxes with deferred annuities or by purchasing permanent life insurance policies has given you some valuable information about the options available to you for reducing your annual taxes so your estate can grow with as little hindrance as possible.

We would welcome hearing from you about the strategies just presented, as the financial services we offer include these and many other tax-saving options. At Synergy, we continually work on your behalf to increase your wealth and reduce your risk. Please contact us for a consultation that could be highly beneficial for your portfolio. Thank you!

Joseph M. Maas, CFA, CVA, ABAR, CM&AA, CFP®, ChFC, CLU®, MSFS, CCIM

Synergy Financial Management, LLC

13231 SE 36th Street, Suite 215

Bellevue, WA 98006

ph: 206.386.5455

fx: 206.386-5452

www.sfmadvisors.com