Charlie Gipple, CFP, CLU, ChFC

Both of my kids play basketball at least 300 days a year. If it’s not the time of year for school basketball, then they are participating in AAU clubs. If they are not doing AAU or school ball, they are in the gym by themselves. For those of you that have (or had) young athletes, you know the amount of transporting kids, coordinating tournament schedules, etc., that happens. And everything is always evolving: What shirts they should wear at a certain tournament, who is bringing snacks, who is sponsoring what event, etc. With that, sometimes it’s so overwhelming that I just declare mental bankruptcy. That is, I erase all the minutia from my mind and tell my wife, “I will just go where you tell me to go.”

That is analogous to what has happened with many agents over the last five years or so when it comes to inherited IRAs, as well as inherited non-qualified annuities that have deferred gain. We had The Secure Act of 2019 that squashed the “Stretch IRA” in many situations, then we had the uncertainty around RMDs and the 10-year rule that the IRS keeps going back-and-forth on, now you have secure 2.0, and the list goes on. I have found that many financial professionals that work with annuities have just declared mental bankruptcy and figure they would navigate this bridge once they approach it and once the dust settles. Needless to say, that may not be a great strategy. So, I will briefly simplify the options below.

What is a Stretch?
I will oversimplify what a stretch IRA is first. Quite simply if one has $1 million in IRA money and passes away, for the beneficiary to cash out that entire $1 million in the first year, it’s not inconceivable to lose $400,000 right off the top. Hence, the inherited $1 million immediately goes to $600,000. Conversely, with a Stretch IRA option that existed prior to 2020, you can stretch that tax liability out over the beneficiary’s lifetime by just taking annual required distributions (based on a table). If you think of the way that compounding works, if the beneficiary’s required distributions in the early years are only three or four percent (based off the table) of the total value but yet the annuity is growing at five, six or seven percent, the beneficiary’s $1 million is not being reduced, it is getting larger and larger up to a point. So, over a 30-, 40-, or 50-year lifetime, that $1 million could very easily generate $2 million to $5 million in additional wealth to that beneficiary by “stretching” the tax liability. In 2019 Congress decided this option would no longer be available for many beneficiaries of IRAs when death happened in 2020 or later. So, let’s explain what the options are today.

Non-Qualified Stretch: What Changed?
Let’s forget IRA money for a second. If one passes away with a non-qualified annuity that has a significant amount of accumulated interest in it, what is taxable to the beneficiary? Well, if the beneficiary just cashed it out, the entire gain would be taxable in that year. However, congress has allowed for the gain to be “stretched” by utilizing the same life expectancy table as the Stretch IRA. What happened to this option with the recent legislation? Nothing. This still exists for most beneficiaries of that annuity today!

Many agents come to me as they are working with the beneficiary of a non-qualified annuity where the original owner just died. They often ask if they can move the inherited non-qualified money to another carrier. The answer is yes. Just note that as far as doing a 1035 of a non-qualified stretch IRA–after death has happened–not all companies accept it. Ask your IMO who does and who does not.

Stretch IRAs with Death Before January 1,2020: What Changed?
For “Decedent IRAs” where death happened prior to January 1, 2020, and the beneficiaries are currently “stretching” the IRA, nothing has changed. Basically, this money is “grandfathered in” and can continue to be stretched. However, again, not all companies accept Stretch IRAs to be transferred into them, regardless of when death happened. Some do, however.

Decedent IRAs with Death on or After January 1, 2020: What Changed?
This is where the changes happened. The Secure Act introduced us to two classes of beneficiaries: Eligible Designated Beneficiaries and Non-Eligible Designated Beneficiaries.

Class 1: Eligible Designated Beneficiaries which are designated beneficiaries of the IRA that are also:

• A spouse, or,
• A disabled beneficiary, or,
• A child who has not yet reached age 21, or,
• A chronically ill beneficiary, or,
• A beneficiary who is not more than 10 years younger than the owner.

For this group, the Stretch IRA option still exists. However, for the spouse, he/she will usually leverage the additional option that the spouse has always had, to take it over as her/his own IRA (Spousal Continuance). So, for the spouse, the Stretch IRA is rarely used.

There is also an exception for the minor child who hasn’t reached age 21 yet. This exception says that once he/she hits age 21 then he/she must continue those RMDs, with a catch! He/she must completely empty the IRA by December 31 of the 10th year after he/she turns age 21. In other words, once he/she hits age 21, they are subject to “The 10-Year Rule.”

(Note: Money passing on to siblings often can be “stretched.” That is because oftentimes the sibling is not more than 10 years younger than the deceased.)

Class 2: Non-Eligible Beneficiaries which are designated beneficiaries of the IRA that are basically everybody else not on the previous list. For example, a 50-year-old son or daughter that has been named as a beneficiary.

For these folks, if the original owner died on or after January 1, 2020, then they are subject to the “10-Year Rule.” Again, if the original owner died prior to January 1, 2020, then they could have chosen the stretch. The 10-year rule says that they must cash out the entire balance of the IRA by December 31 of the 10th year after death. No more stretching over life.

Here is a question and a source of confusion that the IRS has gone back and forth on: For our Non-Eligible Designated Beneficiary, do they have to take Required Minimum Distributions in years 1 through 9? It depends. It depends on if the original owner was taking their required minimum distributions. If the answer is yes, then the answer is “yes, you have to take RMDs in years one through nine.” The RMD for the original owner must be satisfied in the year of death. But, thereafter, the RMDs are based on the beneficiary’s life expectancy reduced by one for each year that goes by. In short, if the owner was required to take RMDs, then the beneficiary will be required to as well, until they fully liquidate the account by the end of year 10. As Ed Slott says, “If the original owner had to turn on the RMD spigot, then that RMD spigot must continue, even after death.”

In the example, if the original owner had not yet been taking their RMDs, then no RMD is due from the beneficiary. However, of course the beneficiary would still need to liquidate the entire account by the end of the 10th year.

What about transferring the Decedent IRA that is subject to the 10-year rule to another annuity company? Can you do this? Yes you can but, as you might guess, some companies accept Decedent IRAs subject to the 10-year rule, and some don’t. For those that do accept it, they oftentimes will only allow it for certain products (with less than 10 surrender periods). Again, speak with your IMO.

What about Inherited Roth IRAs?
The 10-year rule applies. What does not apply is the RMDs between year one and nine for the beneficiary. This is because the original owner of the Roth IRA would never be subject to RMDs with a Roth.

This article is not all-encompassing as I did not get into recent RMD relief, estates as benes, the lump sum options, trusts as benes, etc. However, this should give you a fairly decent roadmap. If you would like a chart that lays this out “at a glance,” let me know.

I recently had a friend that came back from a top agent conference a little depressed because this conference was a few days of recognizing him and his peers for their great success. I thought, “What is wrong with that?” He told me that hearing all of the stories from his peers of money, success, etc., made him feel a little “inadequate” in his own life and personal production. My conversation with him prompted this article.

I’m sure, like many of you, when I was a little kid I would look at grown-ups and think that they all had it all figured out. They had all been there and done that and had everything firmly established and planted into the ground. My parents and grandparents always seemed to have the answers to the questions that I thought were complex at the time. They had so much knowledge. They would talk about “10 years ago this“ and “20 years ago that“ and I could not comprehend thinking back that far. Ten or twenty years ago seemed like a lifetime at the time. It also “seemed” like they had very little stress.

Well, once I got into my early twenties, got married, had bills coming in, and we started building our own lives, I started to realize that there is no roadmap to life, no roadmap to career success, and no roadmap to financial independence. You don’t graduate with a college degree and automatically find yourself in the corner office making $1 million per year and everything is fine at work and fine at home.

For all of us—me, you, our parents—this is our first time at life. Breaking news, I know! And because it is all of our “first times,” nobody has the playbook! My parents didn’t have it all “figured out” and they were probably stressed at times, they just didn’t tell us kids! I am now at the age that my parents were when I thought they had everything on cruise control. I even grunt like my dad did when I get up off the couch!

A very vivid realization of the “randomness” in life came when I was 23. At the time, I worked at one of the big “career” insurance companies and on one beautiful fall day I was going about my morning and carrying my coffee into the office in time to make the 8:30 CST stock market open. As I walked by one of the offices of another agent in that building, he said, “Dude, check this out!” Then he pointed at the TV that showed the world trade center in flames. I remember it like it was yesterday. It was that moment when many of our foundational beliefs changed. For the younger folks reading this article, believe it or not, there was a time when getting attacked on our own soil was so far outside of the realm of possibilities. Not just in my 23-year-old eyes, but in the eyes of those wiser than me. In other words, it was the first time any of us had ever experienced this new post 9/11 world. That is something your parents never prepared you for!

Then came COVID. Who would have ever thought that a global pandemic would completely cannibalize all of our lives in the 21st century? That was a first for all of us, whether you were 20 years of age or 70.

If you fast forward to today, I have been married for 23 years now and raising two smart, happy, and athletic kids. I would like to think that my kids have it a little better than I had it, although I had a good childhood. However, now that I am the age that my parents were when I thought they had it all figured out, I realize that they didn’t have it figured out and they were doing the best that they could!

I recently had a conversation with my 16-year-old kid that was a “first” for me. His girlfriend had just broken up with him, and he was very upset. My wife told me I needed to speak with him and make him feel better. I was scared. It was indeed an awkward conversation, because I am not a real warm and fuzzy person. As I was having that conversation I thought, “I probably sound like an idiot.” It worked though. By the end of the conversation, his ex-girlfriend was a dirtbag who would regret it, I was his hero, and my kid felt better. A little sarcasm there. I’m 45-years-old and that conversation was a first for me. To my son, he probably thought that this is what Dads naturally do without thinking about it.

What on earth does this have to do with business? It has everything to do with business because this is all of our first time at life and business. Yes, some of us may have opened multiple businesses, etc., but when you pan out, it is our first time, period. My main message here is, if you ever feel overwhelmed or feel “inadequate” compared to your competition, just know that they probably feel the same way. As soon as you realize that everybody else is in the same position as you, your confidence will go up.

As I told my friend that I mentioned at the beginning, like with social media, in this business there can be people that make it sound like things are perfect in their world, they make a gazillion dollars, and everything is good. That may be the case sometimes but many times they have similar challenges and insecurities as you might have.

Have you ever heard that motivational speaker talk about their three divorces, their previous bankruptcy, the fact that they are in debt up to their eyeballs, etc.? Of course not! According to that person everything is perfect, they have it figured out, and you should buy their book. Although I’m being facetious here, nobody has it all figured out. This is one of the reasons why I tend to not “idolize” celebrities. This is their first time at life as well and they clearly do not have it figured out.

I would even argue that the more driven you are, the less you feel that you have it figured out. However, sometimes you just have to sit back and understand that we are all brothers and sisters in this game, and nobody has it figured out. Once you understand that nobody has it figured out, it makes you a heck of a lot less nervous in life. That will also lead to more confidence.

Yes, there are folks that have more experience and “wisdom” than you because they have already blazed the trail that you are attempting. Thus, it is important to mop up as much information from them as possible, as I did with my mentors, parents, etc. over the years. However, don’t assume that they felt confident as they were doing it. This is all of our first time.

I think almost every financial professional should be somewhat astute with Social Security. After all, Social Security is one of the very few things that almost all of our prospects and clients will have in common from a financial standpoint. Almost every one of them will be filing for their Social Security benefits eventually, and therefore doesn’t it make sense for all of us to be able to field those questions if they come up?

I know there are some folks that believe that wealthy clients do not care about optimizing and maximizing their Social Security. That may be true for some of them, but I will say, when our agents and I conduct Social Security seminars, if we have 20 consumers in a room a few of them will be millionaires. So, although I do agree that the ultra-wealthy may view Social Security as a rounding error in their overall portfolios, I would adamantly say that there are plenty of affluent consumers that do care about optimizing their Social Security.
With that, I wanted to share with you the number one mistake that many consumers make or intend on making when it comes to filing for Social Security. This mistake is purely because of their misunderstanding of how Social Security works.

First off, let’s step back and talk about “Delayed Retirement Credits.” We all know that when you delay filing for Social Security retirement benefits past full retirement age, you get a .66 percent increase per month that you delay past that point. So, that comes out to be eight percent per year in delayed retirement credits. This means that if my full retirement age is 67, then by delaying until age 70—which is the latest I can delay while getting delayed retirement credits—then I will have a 24 percent increase on my Social Security benefit permanently! In a time where everybody is living longer, if you do the math over your expected lifespan, delaying often makes sense. (Note: Good Social Security software will calculate and compare the total amount of Social Security benefits you would get over various “lifespans” and different filing dates.)

So, where is the mistake that I see many consumers make or intend to make (until they speak with me)? It has to do with spousal benefits. What I just explained regarding delayed retirement credits is if a Social Security recipient is going to be taking Social Security based off of their own earnings record. However, if you are in a situation where you are taking spousal benefits based off of your spouse’s earnings record, delayed retirement credits do not apply.

Let’s take a 63-year-old couple who is trying to decide when they should file for Social Security. Because they were both born in 1960, we know that their “full retirement ages” are age 67 (per the Social Security tables). He has made a ton of money over his lifetime, and she has made very little. This hypothetical is not Charlie being a stereotypical pig but is actually very common in families—like mine. Oftentimes she has stayed at home with the kids and therefore has not earned much while her spouse continued to work to bring home the bacon! By the way, we all know who had the toughest job, and the most important job. Her! Well, the Social Security administration recognizes this dichotomy and therefore says that if 50 percent of one of the spouse’s full Social Security amount (Primary Insurance Amount) is more than her full retirement amount which is based on her own earnings record, then she can take her Social Security benefits based off of 50 percent of his full retirement amount. For instance, if his full retirement benefit is $3,000 per month based on his earnings record and hers is $1,000 per month, then you can bet that she will be looking to leverage the spousal benefit, which would come out to $1,500 per month. To be clear, I am saying “full retirement amount” to simplify the conversation. Technically, it is the “Primary Insurance Amount,” which is defined as the amount of Social Security benefits one would receive based on their earnings record at full retirement age.

So, for our 67-year-old couple it is a common strategy for him to delay filing until age 70 in order to get that 24 percent step up in his benefits. If his “Primary Insurance Amount” was $3,000 (at full retirement age) then by waiting until age 70, he would get $3,720 (not including COLAs) for the rest of his life. It may also be natural for her to also want to delay until age 70 so that she gets those 24 percent step ups on her spousal benefit. She might think that those eight percent delayed retirement credits would be on top of her $1,500 per month benefit. Wrong, Wrong, Wrong.

As I have told several consumers, spousal benefits do not get those delayed retirement credits like they do if it was otherwise based on her own earnings record! Hence, if she delays until age 70, effectively what she has done was left three years of benefits on the table. Again, this is because there is no reward for waiting until age 70 when it comes to spousal benefits. Her spousal benefit at age 70 would still be $1,500 (not including COLAs). Again, she left three years of benefits on the table. Wouldn’t that be a shock to her once she turned age 70 and saw that she only got $1,500?

More than likely, the ideal strategy would be that she files at her full retirement age (67) so that she does not leave those three years (ages 67-70) of Social Security benefits on the table. However, remember that, unless her spouse has filed for his benefits, she does not get the spousal benefit at least until the time comes that her spouse files.

So, because our hypothetical guy won’t file until age 70 in my example, then what benefit will she get between the ages of 67 and 70? The benefit is based on her own earnings record, $1,000 per month (not including COLAs). Then, when he files at age 70, her benefit will bump up at that time to reflect the spousal benefit.

What have you done by alerting this couple that spousal benefits do not get delayed retirement credits? You have allowed her to not leave $36,000 ($1,000/month times 36 months) on the table!

(Note: We will be displaying some great Social Security software that agents can utilize at our Chicago, Des Moines, and Minneapolis Lunch and Learns in November. If this interests you, inquire with us about registering at info@cgfinancialgroupllc.com.)

One of the most popular whitepapers that I have created for financial professionals is titled Indexed Products: How the Watch Is Built. This whitepaper speaks to how insurance companies price fixed indexed products (annuities and life). In this whitepaper, I effectively create an indexed annuity based on today’s interest rates and options prices. I show how the options are bought and sold to create a “cap” of X percent. If you would like that whitepaper, email me and I will get it to you. That whitepaper is a great segue into this conversation on RILAs. However, with or without that whitepaper, this article will still be digestible.

I will not necessarily explain in detail “How the RILA Watch Is Built.” However, I will give you some level of technical details on how it is possible for insurance companies to create a RILA, especially without assessing any additional fees to the client. Afterall, the “there has to be additional fees” response comes up a lot with RILAs.

So, let’s take just one product example. Let’s say we have a RILA that has a floor of 10 percent and a cap of 15 percent. This means that the highest downside is that the client can lose 10 percent and the highest upside is 15 percent. That 15 percent is a great cap in today’s marketplace! When you compare that to one of the top fixed indexed annuities that has a cap of 11.5 percent, 15 percent looks very good! So again, how do the companies do it?

The actuarial logic of RILAs is similar to indexed annuities; bonds support the product guarantees and options provide the upside potential. However, in this RILA product example, we aren’t just talking about call options we are also talking about put options. Let me explain with 100 percent hypothetical numbers while using the S&P 500 as our index…

Let’s start with fixed indexed annuities. With a fixed indexed annuity, following is how they are created. This is a very abbreviated version of the aforementioned whitepaper. Based on the bonds the carrier invests in, we may have a “call option budget” of four percent for our call options. That four percent (of the entire premium) is what we have to purchase the call options. However, the carrier generally doesn’t just purchase call options with indexed annuities, they also sell call options.

With the four percent in the carrier’s pocket, the carrier will buy an “at the money” S&P 500 call option that will give them 100 percent of the upside potential in the S&P 500 over the next year. However, that “at the money” call option may cost seven percent versus the four percent that the carrier had as a call option budget! So, what does the carrier need to do to get their net cost down to four percent? The carrier needs to come up with an extra three percent obviously. That is where the carrier will sell an “out of the money” call option that gives the upside beyond the “out of moneyness” to somebody else. In our very hypothetical example, a call option that is “out of the money” by 11.5 percent is what the carrier will sell, because that is where they can sell the option for around three percent of the “notional value.” (Note: Again, these numbers are not accurate based on today’s options pricing, but it is the concept that matters.)

So, what the carrier has just done was buy one call option that gives them the growth on the S&P 500 up to infinity from today’s S&P 500 value. However, because buying this one option was too expensive, they also had to sell an option that gives somebody else the upside potential beyond 11.5 percent. This is how an indexed annuity is made that has an 11.5 percent cap. The more “out of the money” the option is that the carrier sells, the higher the cap will be to the client. However, the more “out of the money” the option is that is sold, the less the option premium will be that the carrier will get back. So, in this example, the carrier finds that the amount “out of the money” to get three percent back is indeed 11.5 percent. Our cap of 11.5 percent is created.

For the options folks, what I just explained above was a “Call Option Debit Spread” where the net cost/debit was four percent of the notional value/client’s premium. For the folks that are not options-savvy, that last sentence never happened!

Now, with my RILA example that has a very large cap of 15 percent, how can this be done without additional fees? First, they would do almost exactly as I discussed with the indexed annuity, where they bought and sold call options to net out to a certain call option budget. However, they would have a call option budget higher than four percent, perhaps six percent! Thus, by having a six percent call option budget, they are able to buy a cap that is 15 percent, instead of 11.5 percent.

Where did that extra two percent budget for our call options come from, especially since the insurance company is not applying an extra fee to the client? With RILAs, the carriers are able to supplement their call option budget by selling “Put Options.” Put options—when bought—give somebody money when the market falls. If you bought a put option on the S&P 500 and the market lost 20 percent, you are likely going to get paid—especially if you bought an “at the money” put! A put option is the opposite of a call option. But you can also sell put options so that when the market tanks, you have to be the one paying the counterparty the amount the market has dropped (below the strike price). Why on Earth would you sell a put option? For the option premium. Like selling anything else, you get money in exchange for it. With options, this money is called the “premium.”

So, what the company did with our hypothetical product that has a -10 percent floor and 15 percent cap was, they sold an “at the money” put option on the S&P 500. By just doing this, the insurance company got a great “premium” for selling this to somebody else (investment bank for example). However, by the carrier just selling this “at the money” put option, this means that the insurance company/consumer would now be 100 percent exposed to the market should it fall. We don’t want the client to be 100 percent exposed; only 10 percent exposed. So, the carrier will then purchase a put option that is 10 percent “out of the money.” This means that somebody else participates in the market’s loss beyond 10 percent. This is how the floor of -10 percent is created.

The put option that the carrier sold was two percent more expensive than the option the carrier purchased. This is because they sold an option that was “at the money” and they purchased an option that was “out of the money.” So, by doing the above selling and buying of put options, the carrier garnered an additional two percent that then gets added to the call option budget that allows them to buy a very high cap of 15 percent. All at the cost of exposing the client to the downside of -10 percent.

In short, by the client being exposed to the 10 percent downside, the insurance carrier is able to afford options that give that same consumer 15 percent to the upside. The carrier did all of this without adding an additional fee to the client.

For the options folks, with RILAs the “Call Option Debit Spread” is supplemented by a credit that the carrier has created via a “Put Option Credit Spread.” Again, for folks that are not familiar with options strategies, move that last sentence to the trash bin of your memory.