A client who holds a variable annuity contract passes away. The contract has a death benefit provision. Which of the following statements is TRUE regarding the death benefit?
- AThe death benefit is paid to the annuitant's estate if a beneficiary is named.
- BThe death benefit is typically paid to the beneficiary as a lump sum and is always tax-free.
- CThe death benefit is usually the greater of the account value or contributions minus withdrawals, paid to the beneficiary.
- DThe death benefit is subject to probate if a beneficiary is named.
Show answer & explanationAnswer & explanation
Correct answer: C. The death benefit is usually the greater of the account value or contributions minus withdrawals, paid to the beneficiary.
A key feature of variable annuities is the death benefit, which typically guarantees that the beneficiary receives at least the amount invested (contributions) minus any withdrawals, or the current account value, whichever is greater. It bypasses probate if a beneficiary is named and is generally taxable to the beneficiary as ordinary income on the earnings.
Why the other options are wrong
- A. This is incorrect; if a beneficiary is named, the death benefit goes directly to them, bypassing the estate.
- B. This is incorrect; while often paid as a lump sum, the earnings portion is taxable to the beneficiary.
- D. This is incorrect; naming a beneficiary allows the death benefit to bypass probate.
Variable Annuity Death Benefit
A guarantee within a variable annuity contract that ensures, upon the annuitant's death, beneficiaries receive at least the amount invested (adjusted for withdrawals) or the current account value, whichever is higher.
- Bypasses probate if a beneficiary is named.
- Earnings are taxable to the beneficiary as ordinary income.
- Guarantees a minimum payout, protecting against market downturns.
Memory trick: Death Benefit: Your 'Best' of account value or contributions, tax 'ouch' on gains.