Financial professionals have another retirement planning tool at their disposal with the advanced life deferred annuity (ALDA), which was introduced in this year’s federal budget. The ALDA is designed to help investors worried about running out of money in retirement – and defer some taxes along the way.
Under the budget proposals, investors would be allowed to move up to 25 per cent of the assets within their registered retirement funds to an ALDA, which would then be deferred until the end of the year in which they turn 85 at the latest. The ALDA will have a lifetime maximum of $150,000 when it comes into effect in 2020 and will then be indexed to inflation and rounded to the nearest $10,000 in the following years.
The move allows eligible investors to keep more of their savings tax-deferred until later in retirement as current tax rules require an annuity purchased with registered funds to begin the year after the investor turns 71. The budget documents state that an ALDA will be permitted under a registered retirement savings plan (RRSP), registered retirement income fund (RRIF), deferred profit-sharing plan, pooled registered pension plan and defined-contribution registered pension plan.
“[The ALDA is] a neat concept,” says Jason Heath, an advice- and fee-only certified financial planner at Objective Financial Partners Inc. in Toronto. “The main benefit is that it reduces the amount of money you need to withdrawal from your RRSP and then your RRIF in your 70s.”
Mr. Heath says an ALDA may be well-suited to more conservative clients seeking guaranteed income later in life as well as do-it-yourself investors who may wish to be less actively involved with their portfolios as they get older. The vehicle may also help people who don’t already have defined-benefit (DB) pension income.
“There is no perfect solution for retirement income, but to me, the more options there are the better it is for retirees,” Mr. Heath says.
The new spotlight on annuities
The ALDA’s introduction is expected to revive interest in annuities as a retirement income planning tool, Mr. Heath says: “It brings attention and possibly demand for annuity products.”
Annuities have been unpopular in recent years partly because of lower interest rates, which have led to lower payouts for investors. However, longer life expectancies have more Canadians worried about outliving their money, and annuities can provide some peace of mind, says Warren MacKenzie, head of financial planning at Optimize Inc. in Toronto.
Although the ALDA isn’t likely suited for the high-net-worth investors or those with a healthy DB pension plan, “for the average person, where there is a possibility they could run out of money in retirement … this is what you’d recommend," Mr. MacKenzie says.
He also cites the tax-deferral advantage of the ALDA for clients because it means their required RRIF payments will be lower, which in turn reduces their taxable income.
“Because of the delay between the purchase of an annuity and the receipt of the first annuity payment,” Mr. MacKenzie says, “the annuity payments will be substantially higher than what would be received from a conventional annuity.”
Having guaranteed income later in life, which an ALDA can provide, is important for many clients. “In later years, health may decline and the very elderly may find it more difficult to make financial decisions,” says Mr. MacKenzie. “The ALDA will help ensure that they do not outlive their savings. The downside is that for individuals who die before the deferred annuity begins, the payout is limited to a return of capital.”
Financial advisors need to be careful in using an ALDA simply as a tool to minimize taxes in the near term, says Mr. Heath, as it could lead to higher taxes in the longer term. For instance, he says investors who defer too much income from their RRIFs to an ALDA may be in lower tax brackets in their 70s but in much higher tax brackets in their 80s than they would be if they hadn’t purchased an ALDA. “They may pay more lifetime taxes as a result,” he says.
An ALDA could also minimize the value of an estate, especially if the investor dies young, Mr. Heath says. For example, if an investor bought an ALDA, deferred withdrawals to 85 and died at 80, their estate may pay taxes of more than 50 per cent on the remaining RRIF and ALDA proceeds.
“[These investors] may have been better off taking more than the minimum RRIF withdrawal – the opposite of buying an ALDA and deferring RRIF income,” he says. “So, while buying an ALDA may help if someone lives to 100 [years of age], it may hinder if someone dies young – especially if they’re single and leave their estate to their kids.”
Income diversification and protection
Mary Hagerman, a portfolio manager and advisor at Desjardins Wealth Management Securities in Montreal, says the ALDA will be another tool to help advisors diversify income sources for clients and simplify their portfolios as they age.
“People don’t like to see the volatility in their assets,” especially in retirement, she says.
Having a set income stream might also protect seniors susceptible to financial abuse because they won’t have the larger pot of money to hand over to fraudsters. “The money can’t be tampered with,” she says.
Ms. Hagerman says advisors will need to coach clients on the pros and cons of the ALDA based on their individual financial plans. For example, there’s a risk of locking up too much money in an annuity structure.
Advisors will need to have the proper qualifications to sell the ALDA or be affiliated with an insurance firm that does. If they’re not, advisors will need to hand over that piece of business to a company with those credentials.
“It’s going to be incumbent on advisors to be as objective as possible on their recommendation to use these products,” she says. “It’s always clients first.”