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Lifetime Income Benefit Rider vs. Annuitization

Stan Haithcock
October 11, 2021
Lifetime Income Benefit Rider vs. Annuitization

So you're looking for income, and you want to know the difference between a lifetime income benefit rider and what's called annuitization. An annuitization means creating payments. With 10,000 baby boomers retiring every day, most people are looking for income and contractual guarantees. They're not looking to trade the markets. They want to make sure that they have a solid income floor of guaranteed income in combination with their social security, pensions if you're so fortunate, dividend income, rental income, whatever you have coming in every month that guarantees that lifestyle that you want to live. So let's talk about lifetime income benefit riders versus annuitization.

Lifetime Income

Let's talk about income from any type of annuity. Ultimately, it's a combination of return of principal plus interest. Lifetime income guarantee is based primarily on your life expectancy, or if it's set up to be joint with a spouse, etc., life expectancies when you make the payment. There's a lot of talk about rates and timing rates. Interest rates do play a role in lifetime income guarantees, but it's a secondary role. The primary pricing mechanism that drives the train is life expectancy. Just remember that because you can't time it.


Now, let's talk about annuitization because annuitization, the creation of payments, started in Roman times when immediate annuities were first introduced. Those are the granddaddy of all annuitization products. Ultimately, the value proposition is the annuity company paying you for the rest of your life, regardless of how long you live, even if there's zero in the account. So let's talk about annuitization from the standpoint of taxation. And I'm no tax advisor, but I'm going to give you a broad overview of how this works. All annuities can be used inside of an IRA, outside of an IRA, inside of a Roth IRA; whatever you choose is of the contractual guarantee nature. Those contractual guarantees are based on what account you choose, and that's how you're going to be taxed. So let's look at annuitization outside of an IRA. Because inside of an IRA, everything that's coming out is fully taxed at ordinary income, right?

An immediate annuity outside of an IRA, a non-qualified account as they say in the business, is a return of principal plus interest. So when we send you a quote, there's going to be a column that says, "Here's your guaranteed monthly amount. Here's the amount that's not taxable of that monthly amount. And here's the taxable amount." In our business, we call the taxable amount the exclusion ratio. So until the money's gone, that exclusion ratio is going to be there. Therefore, you're only going to pay the taxes on a portion of that income stream. All of it is taxable when the account goes to zero, and you’ve lived past your life expectancy. Up until you use up all the money, it's an exclusion ratio, a combination of return of principal plus interest, and you're only paying taxes on the interest portion.

Income Rider Payments

So we've talked about annuitization payments for a lifetime income. Let's talk about income rider payments for a lifetime income. It's a little bit more complex because there are numerous types of income riders. Let's discuss the ones that are not annuitized. There are some attached to variable annuities that can be annuitized. The majority of the income riders that are pitched today are the ones that are not annuitized. And you say, "Well, Stan, how can it be a lifetime income stream if it's not annuitized?" A lifetime income benefit rider pays you for life. In essence, they're subtracting from the account and just paying you for life.

So it's not a combination, an exclusion ratio like annuitization. With the majority of income riders being sold out there now, when you take income, it's last in, first-out accounting, meaning you're going to be paying gains first on that income stream. In my world, it's all about contractual guarantees. I only focus on what they will do, not what they might do®. They will do® the contractual guarantee part. So if you want income that isn’t taxable now or in the future, we're going to quote all products to see the best contractual guarantee.

With the income rider, all of that income stream from the start is taxed last in, first out. Gains first. A portion of the deferred income annuity is not taxable because we're using non-IRA assets. So you have to weigh which ones makes more sense to you—time, value, money, whatever calculation we want to run. But with non-IRA money, we'll look at both. We'll look at the taxation of the income stream, which is very important. And then you can make a decision which one works.


There are no perfect answers out there, just bad sales pitches. Never forget that. No one has the perfect answer. What we're going to do is show you all the best quotes, give you the best information, and then explain everything, then leave you alone so that you can make a good decision. So, where do lifetime income benefit riders and annuitization fit? If you need a lifetime income guarantee, that's the unique benefit proposition that only annuities have that no other product has. You worked hard for your money. You need to understand how these lifetime guarantees work.

Never forget to live in reality, not the dream, with annuities and contractual guarantees! You can use our calculators, get all six of my books for free, and most importantly, book a call with me so we can discuss what works best for your specific situation.

Never forget to live in reality, not the dream®, with annuities and contractual guarantees! You can use our calculators, get all six of my books for free, and most importantly book a call with me so we can discuss what works best for your specific situation.

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