Annuities are tax deferred savings contracts that are usually written by insurance companies.  The owner of the contract makes a payment or series of payments to the issuer or insurer and in return the insurance company promises to make a payment or series of payments to the contract owner in the future.  Although they have a reputation for having high fees, they can be advantageous in a variety of situations, including tax deferral as well as insuring against longevity risk of the annuitant and/or owner.  Unlike qualified plans such as 401K and 403B plans and IRAs, there is no annual limit to how much can be contributed to an annuity contract.

Tax deferral

Annuities allow the contract owner to defer taxes on gains inside the contract until their withdrawal.  When withdrawals are made, they are subject to first in first out (“FIFO”) reporting, in that the gains will be deemed to have been withdrawn first, and will thus be subject to taxes.  The contract owner will be subjected to a 10% penalty on withdrawals if the withdrawals are made prior to age 59 1/2.  Taxes on the gains upon withdrawal can be deferred and paid on a prorated basis by taking withdrawals on a periodic basis.

Management of longevity risk

Annuities provide a way to protect the contract owner against longevity risk.  As an example, consider an individual who, at retirement age, has a lump sum which needs to last through retirement.  If the retirement income strategy is to withdraw income only and preserve the principal, then there are no issues and an annuity may not be suitable or necessary.  However, if the retirement income strategy is to withdraw the lump sum gradually over many years, it is difficult to assess how much should be withdrawn as there is no way to know for how many years the withdrawals will be needed.  An annuity can protect against this uncertainty by making payment until the death of the annuitant.

Health insurance

The different types of health insurance policies are listed below.

Health maintenance organization (HMO)

Health maintenance organizations provide coverage from entirely within their network of providers.  These plans typically have lower administrative costs and less paperwork than other plans.  Members usually must obtain a referral on order to proceed with receiving care from another provider.

Preferred provider organization (PPO)

In a preferred provider network members can receive care from inside or outside the network, but typically have higher out of pocket costs when outside the network in the form of higher deductibles and co-insurance.

Exclusive provider organization (EPO)

Exclusive provider organizations are similar to HMO plans except that referrals are usually not needed.

Point of service (POS)

Point of service plans are similar to HMO plans except that care can be obtained from outside the network.  Referrals are typically needed in order to do so, and costs borne by the member are usually higher.

High deductible health plan (HDHP)

High deductible health insurance plans are typically the lowest cost plans, but also have high deductibles and usually high co-insurance payments as well, resulting in high out of pocket costs overall.  These plans are usually supplemented with health savings accounts (“HSA”s) which enable the member to accumulate assets on a tax advantaged basis for the purposes of paying for out of pocket costs associated with the high deductible health plan.

Certified financial planner

The Certified Financial Planner™ (CFP®) designation is a professional designation which is frequently held by financial planners, investment advisers and other financial advisers.  It is conferred by the Certified Financial Planner Board of Standards, Inc.  Candidates must have a bachelor’s degree (or higher) from an accredited college or university, three years of full-time personal financial planning experience and complete a course of study in financial planning topics.  These subject areas include investments, taxes, estate planning, insurance planning, employee benefits, and asset protection.

A candidate may be exempt from the course of study requirement if he or she holds a CPA, ChFC, CLU, CFA, Ph.D in business or economics, a Doctor of Business Administration, or an attorney’s license.

All candidates must successfully complete the CFP® Certification Examination, which has a reputation for being very challenging, comprehensive and arduous.

CFP® practitioners are subject to the CFP Board’s ethical standards, and must abide by a fiduciary standard.

Certificants must typically complete 30 hours of continuing education every two years, and 2 hours of these 30 hours must be in topics related to ethics.

In many jurisdictions, the CFP® designation will exempt an investment adviser representative from having to pass the Series 65 examination.

Medicare advantage and medicare supplement coverage

Certain parts of medicare are administered by private insurance companies.  These include medicare part C (“medicare advantage”), medicare part D (prescription drug plans), and medicare supplement plans.

Medicare part C, frequently referred to as “medicare advantage”, provides a means for medicare eligible individuals to obtain their hospital and outpatient medical coverage through private insurance companies.  This is in contrast with medicare part A and part B, in which such coverage is administered and provided by the federal government.

Medicare advantage plans vary and have different rules,  provider networks and out of pocket costs.  Some medicare advantage plans include prescription drug coverage while others do not, and the premiums for these plans are typically paid for by medicare.  The private insurance companies and the plans which they provide must be approved by and are regulated by the federal government.

Medicare part D includes prescription drug coverage.  As discussed previously, some medicare advantage plans include this coverage while others do not.  Additionally, medicare beneficiaries who are enrolled in part A and part B have the options of purchasing stand alone part D prescription drug coverage.

Medicare supplement plans, frequently referred to as “medigap” plans, are private plans which can be purchased by an individual who is enrolled in medicare part A and part B.  These plans provide a means for medicare participants to obtain coverage for deductibles, co-insurance, and other out of pocket costs associated with medicare part A and part B.  Like medicare advantage plans, medicare supplement plans are regulated by the federal government.

Medicare part A and part B

Medicare coverage is broken down into parts A, B, C and D.  Medicare part A (hospital coverage) and medicare part B (medical coverage) are run by the federal government.  Part C (medicare advantage) and part D (medicare supplement) are administered by private insurance carriers and are approved by the federal government to replace or supplement parts A and B.

How you manage your medicare coverage is an important part of financial planning if you are of the age where you qualify for benefits of any kind.  Here we will provide a very basic overview of medicare parts A and B and how they work.  In subsequent articles we will discuss medicare parts C and D and how you can use these private plans to actively manage your individual situation.

Medicare part A – hospital coverage

Medicare part A is hospital coverage, and you do not have to pay premiums for this coverage if you are age 65 and you meet certain requirements.  Medicare part A covers medically necessary services required to treat a disease or condition.  These include hospital care, skilled nursing facility care, nursing home care, hospice, and home health services.

Medicare part B – medical coverage

Medicare part B is outpatient coverage, and you must typically pay premiums for part B.  You must under many circumstances enroll in medicare part B when you are first eligible.  If you do not, you will have to pay a penalty in the form if higher premiums when you finally do enroll, unless you meet certain exceptions.  Medicare part B covers medically necessary supplies and services needed for diagnosis or treatment of your condition.  This includes services received at a doctor’s office, clinic, hospital, or other health facility.




Life insurance taxation

Life insurance taxation is an important subject as relates to your overall financial situation.  Life insurance contracts have several tax features which make them unique and advantageous as an asset class.  We will discuss several aspects of life insurance taxation.  We will discuss tax advantages of life insurance here related to the death benefit, the withdrawal or surrender of the cash value, and the dividends from the policy.

Taxation of the death benefit

Death benefit payments are typically paid income tax free to the beneficiary.  They can, however, be subject to the estate tax.  There are various strategies for managing the estate tax liability including irrevocable life insurance trusts (“ILITs”).  This is a complex subject and we emphasize the importance of consulting with the appropriate advisers in carrying out such estate planning strategies.

Taxation of cash value upon withdrawal or surrender

The cash value of the life insurance policy can be withdrawn tax free up to the basis of the policy, after which point the cash value is taxed.  This is a unique and advantageous feature of life insurance and is known as the first in first out (“FIFO”) convention.  It is important that the life insurance policy meet certain requirements in order to qualify for FIFO treatment.  If a life insurance policy is over funded as per these rules it could be classified as a modified endowment contract (“MEC”) which would deem it to be treated as an annuity for tax purposes, which would include last in first out (“LIFO”) treatment of the gains as well as a 10% penalty for early withdrawals (prior to age 59 1/2).

Taxation of dividends

Unlike taxes on dividends from capital assets such as stocks, bonds, and mutual funds, taxes on dividends from life insurance policies are deferred until their withdrawal, and are subjected to first in, first out treatment.  This is another unique and advantageous feature of life insurance which distinguishes it from other investment asset classes.

Disability insurance

Disability insurance protects your income in the event of a disability preventing you from earning income through employment.  Social security has a disability program which provides some amount of coverage in the event of a long term disability.  The social security disability program provides long term benefits with an elimination period of 6 months.  What this means is that a person must be disabled for six months before they can begin collecting benefits.  More information about the details of this coverage can be found on your social security statement, or by accessing your social security benefit information online at

In addition to benefits provided through social security, you can also obtain coverage through a group plan such as an employee group or union, or purchase individual coverage through a private insurance carrier.  Private disability insurance is subject to stringent underwriting requirements, and pricing is based upon occupation, health, benefit amount, and time frame of benefits which are provided.

Private disability insurance can be either short term or long term.  Short term disability insurance covers disabilities lasting from a few weeks to several months or a year, while long term disability insurance coverage begins after an elimination period of several months to a year and lasts anywhere from a few years up to retirement age or longer.

Risk management – unemployment, disability, dependent survivors

We will discuss how to protect against the most common risks – unemployment, disability and death.


Unemployment insurance is typically provided by state or federal government programs.  Private insurance for this type of issue does not exist for the most part, and in order to take a proactive approach to managing this risk an emergency fund should be established.


Disability insurance is provided by the federal government through the social security program, and in some situations is mandated by states through workers compensation laws.  Many employers and unions provide disability insurance for their employees and members.  A proactive approach can be taken by purchasing private insurance coverage as well.  Pricing for this type of coverage is typically based upon age, health and occupation.  Disability insurance can generally be broken down into two types: short term disability insurance (STD) and long term disability insurance (LTD).  Short term disability programs typically cover events lasting from a few weeks to a year, depending on the particular coverage, while long term disability coverage typically covers events which are long term in nature.  Disability insurance policies are typically subject to an elimination period, which is the minimum amount of time which the disability must last in order for the policy holder to begin collecting benefits.

Dependent survivors

Coverage to protect dependent survivors in the event of death of a breadwinner is typically provided by purchasing life insurance.  Social security also has a dependent survivor’s benefit program, where benefits are provided to a surviving spouse as well as to surviving children.  Details of this coverage can be found in the social security statement.

Life insurance

Life insurance policies are contracts which are designed to protect the income or assets of the insured person in the event of his or her death.  There are many different types of policies including term insurance, whole life insurance, and universal life insurance.  We will briefly review each of these types of policies here.

Term Insurance – rental of coverage

With term insurance, the coverage is paid for a number of years, after which point the policy either terminates or becomes prohibitively expensive.  Term insurance is usually used to protect the income of a wage earner supporting children or debt such as a mortgage, and is typically the least expensive type of life insurance coverage.  The most significant advantage of term insurance is its low cost and its most significant disadvantage is its temporary nature and the fact that it usually will cover a person only in their younger years, when a claim is less likely to be filed.  Having term insurance is sometimes referred to as “renting” coverage as the policy holder does not have any equity in the policy and only pays for the coverage for the amount of time for which it is in force.

Whole Life Insurance – purchase of coverage

Whole life insurance is frequently referred to as “permanent” insurance, in that the coverage will remain in force for the duration of the insured’s life, as long as the premiums are paid.  This type of coverage is usually used in estate planning, and is typically the most expensive type of insurance.  Many types of whole life policies are “participating”, in that the policy holder is entitled to receive periodic dividends from the insurance carrier.  Whole life policies have a cash value which can be accessed by the policy owner by means of withdrawals, surrender, or loans.  Cash value growth inside life insurance policies is tax deferred and is subject to first in first out (“FIFO”) treatment as long as certain requirements are met.  What this means is that the tax free basis is withdrawn prior to the gains in the policy, so the policy owner will only be taxed when the amount of the withdrawals exceed the basis in the policy.  The “guarantees” provided by whole life policies are backed by the general account of the insurance carrier.  This is in contrast to the separate accounts of universal life insurance policies (discussed below), which are titled in the name of the policy holder.  Having whole life coverage is frequently referred to as purchasing coverage due to the fact that the policy holder builds equity in the policy.

Universal Life Insurance – flexible coverage

Universal life insurance can be permanent or temporary depending on how the policy is managed by the policy holder.  Premium payments are flexible, and the policy will last as long as the policy remains funded.  The policy is funded by means of the policy holder making premium payments as well as earnings inside the policy.  Similar to whole life insurance, universal life insurance has cash value which can be accessed by the policy owner by means of surrender, withdrawals or loans.  The sub accounts of a universal life policy are typically titled in the name of the policy holder and are thus not invested in the general account of the insurance carrier.  Universal life insurance can be used for a variety of purposes including estate planning, income protection and debt protection, and its cost depends on how the policy holder chooses to manage the policy.  There are several types of universal life insurance coverage including fixed and variable.  With a variable universal life insurance policy the funds inside the policy are invested in stocks, bonds, and other investments, and with a fixed universal life insurance policy the funds inside the policy are invested in fixed interest bearing accounts.