Investors often turn to certain types of investments to discover strict and often costly tax implications. A deferral solution for some investments may be a private placement variable annuity (PPVA), in which an investor contributes cash to an annuity contract which is then invested in fixed income and alternative strategies. But it’s not for everyone.

A typical investment allocation for investors is bonds and, increasingly, alternative investments such as private equity investments and hedge funds, said Michael Donahue, CPA and partner at Drucker & Scaccetti in Philadelphia. “As effective as these allowances may be for your investment strategy, they have painful tax implications due to the high tax rates on interest income and the non-deductibility of investment costs,” a- he declared.

A wealthy investor can use a PPVA to defer taxes. The investor contributes cash to an annuity contract, which is then invested in fixed income securities and alternative strategies.

Variable annuities have gained a reputation for high costs and complexity. But a PPVA policy, sometimes called “investment annuity only,” may work for some investors, Donahue said. For the cost of a small annual annuity (half of 1%), an investor defers taxation to the date he withdraws money from the policy.

Since investment expenses reduce the underlying value of the investment, these expenses effectively become deductible. Additionally, annuity payments may occur when the investor retires and resides in a low- or no-tax state, Donahue said. Tax rates in retirement are also often lower than at other points in life.

This tax deferral tool is not for everyone. “A PPVA is typically an investment structure that we see for high net worth clients, usually because of the cost of setting up, the minimum size of investments, and the level of sophistication required,” said Rob Cordasco, CPA and Founder. of Cordasco & Company in Savannah. , Ga.

“The way I usually explain a PPVA is to think of it like any other variable annuity on the market, except you have more information about the terms of the variable annuity structure and more control over the investments detained,” Cordasco said.

If properly constituted, a PPVA is taxed the same as any other variable annuity. “The downside, as with any variable annuity, is that there are penalties for withdrawals before age 59½ and the income is subject to ordinary tax rates as opposed to capital gains rates,” said said Cordasco.

According to the IRS, most distributions from qualified retirement plans and non-qualified annuity contracts made to you before you reach age 59.5 are subject to an additional 10% tax. This tax applies to the part of the distribution that you must include in gross income. However, this does not apply to any part of a distribution that is tax-exempt, such as amounts that represent a refund of your costs or that have been transferred to another pension plan.

“A PPVA opens many doors to investing in assets that would generate ordinary income, such as bond interest,” Cordasco said. “Plus, a PPVA can be paired with estate and trust strategies to really increase tax benefits.”