Tax Planning for Annuities

The complete guide to the taxation of various types of annuities including deferred fixed annuity, variable annuity and equity indexed annuity.

For most people who purchase an annuity, the main benefit they’re seeking is favorable tax treatment. But it’s important to know all of the tax related answer before making investment into annuities – the pluses and the minuses.

Taxes on annuity premiums paid

The money that you use to fund an annuity is generally after-tax money, and therefore the premiums themselves are not deductible. So if you’re looking to lower your income taxes, putting money into an annuity will not give you the same reduction that contributing to an tax deductable IRA or retirement plan offered through your employer unless you buy annuity inside your IRA or retirement plans.

Taxes on annuity account growth

For the most part, annuities grow on a tax deferred basis, meaning that any increase in the value of the account is not taxable until you take a withdrawal. At that time, the money is treated like ordinary income.

Taxes on early withdrawals from annuity

When you take money out of an annuity before you’ve turned 59 ½ years old, you may have to pay 10% of the withdrawal amount as a penalty to the IRS on the gain in the annuity account. Looking at what you’ve paid into an account, and what the account has earned over the years, for tax purposes the IRS treats the withdrawal as if you’d taken money from the earnings first, and then from the premiums you’ve paid in. 

Taxes on scheduled withdrawals from your annuity account

Once you’ve reached the maturity period of your annuity, and begun to take regular distributions, each distribution will be made up of two parts. The first part is the principal – the money you put into the annuity account. The second part is the earnings – money the account has made over the years. As in the case of early withdrawals, the earnings part will be treated as ordinary income, and taxed accordingly.

Taxes on of lump-sum distributions from your annuity policy

Another way of taking money from your annuity is by means of a lump sum – a complete withdrawal of all funds in the account. Such a withdrawal can have major tax consequences for the investor. If the withdrawal takes place early in the contract, in addition to taxes on earnings, you may have to pay a surrender charge to the company that issued the annuity. And the lump sum withdrawal could even put you into a higher tax bracket than you would normally be, making your tax situation even worse.

Taxation is a very complex subject, with lots of rules, and lots of exceptions, and always changing. BeamaLife and its specialists are not authorized to offer tax or legal advice but our experience annuity & retirement specialists can provide you detailed information on these different retirement savings options and annuities. Please call (877) 972-3262 to speak with a retirement specialist or complete your personalized fixed annuity proposal with the best annuity interest rate.