Annuity Taxes

Episode 119 January 05, 2024 00:15:42
Annuity Taxes
Annuity Straight Talk
Annuity Taxes

Jan 05 2024 | 00:15:42


Show Notes

Newsletter on Annuity Taxes:


00:00 Annuity Taxes

01:10 Annuity taxes depend on the type of assets, whether they are qualified (IRAs, 401k) or non-qualified (after-tax cash).

03:02 There's a distinction between income and accumulation annuities, with different tax treatments.

04:12 Growth inside a fixed annuity is tax-deferred until withdrawal, offering a benefit over other investments like CDs and bonds.

06:00 Qualified assets (IRAs, Roth 401k) are taxable upon withdrawal, and there are no additional tax benefits for annuities.

07:07 Income annuities, like single premium immediate annuities, have an exclusion ratio, dividing payments into taxable and tax-free portions.

08:31 Variable annuities with income riders can have variable taxes due to fluctuating account values, affecting the taxable amount.

10:49 Inherited annuities have different tax rules, with options like lump-sum payouts, 5-year payouts, or stretching the payments over life expectancy.

12:10 Stretching inherited annuities allows beneficiaries to receive payments over time and can be a beneficial legacy strategy.

13:36 To learn more or discuss annuities, you can schedule a call with Bryan Anderson at Annuity Straight Talk.

View Full Transcript

Episode Transcript

[00:00:05] Speaker A: This is annuity straight talk. Since 2008, your host, Brian Anderson has helped clients nationwide navigate the complex market for annuities. With Brian's assistance, hundreds of clients have achieved a profitable and secure retirement. You I would know because Brian has answered many of my questions concerning annuities and retirement planning so that you can benefit as well. Let's get started. Here's Brian. [00:00:47] Speaker B: Hello and welcome to the Annuity Straight Talk podcast, episode number 119, 1st episode of 2024. Gonna be a great year. It was a good year last year. A lot of crazy stuff happening in the world. Annuities are one of those safe and easy things that make life better for everybody. I know a lot about them and I like to share that with you on this podcast. So I'm the founder and creator of Thank you for joining me. Moving up in episodes, going to get a bunch more done. Sorry we did not have a market analyst on the call last week. We had scheduling conflicts. Seems like nothing ever slowed down for me. Rates were dropping, people were trying to get in on some last deals. I worked through the holiday, kind of wanted some time off. But you know what? I get my time when I need it, so I'll take it when I feel like it. I can work a holiday. No big deal. Going to start this year off with everybody's favorite subject. Doesn't everybody love taxes? And just kind of one of those things that came with some of the website build that I did last year and a lot of the writing I did, it's annuity taxes. How are they taxed? A lot of people know this, but again, it's just something that needs to be out there. You got it here. And I'm not going to say with this regard, I think most of what you can find on the Internet is pretty reliable. There's not as much bs surrounding this as there are other annuity topics. There's a lot of that out there. The robots are going nuts, scraping the Internet and creating new websites, AI garbage that will never be this. I create it, I write it, I record it, I do it all my own creation. So let's share the screen. You get a little visual aid as I go through this. Annuity taxes. So obviously you're planning for retirement. Critical element. You got to figure out what's the tax situation going to be. A lot of people go into income planning and typically you take your last earning years, subtract all the money that you've been saving, pull off your taxes, find out the income you need. It's kind of part of the whole deal. I don't do tax planning because I'm not a CPA. I've actually thought about getting a CPA's license, but I wouldn't use it. It's more just for bragging. Right. So like, yeah, I get it. I did take enough college coursework in the right fields to do it, but I don't really feel like doing that. Yeah. Anyway, so you look at, there's a specific tax treatment on the annuities and it's going to depend on why you're using it and where the money comes from. There's two different things. So qualified assets, IRA, four hundred and one k, et cetera, they're all iras. Once they come in, annuity are going to be different than non qualified after tax cash, cutting a check. So you've got two different asset types that are going to be taxed differently and then you also have income annuities or accumulation annuities. Remember, annuities are not just for income. In fact, most of the annuities that I sell are people that are just parking money somewhere safe and getting a good growth rate on it. Big distinction between income and accumulation. So with an income annuity, reportable taxes are mostly fixed in most cases, while an accumulation annuity is taxed depending on the amount of growth in relation to the size of the withdrawal. Qualified iras, pretty straightforward. After tax money requires a little bit more calculation. None of it's difficult, so it's pretty easy. You just need to know going in what to expect. So non qualified, you already paid taxes on it. And any other type of investments like a bond, CD mutual fund or stocks. If you own it outside of an IRA, you're going to have to pay ordinary income taxes on interest, earnings or dividends. And then obviously when you sell some appreciated assets as well, it's a different deal. So, growth inside a fixed annuity, like an accumulation product, fixed index annuity is tax deferred until the money is withdrawn. So that's a huge benefit over cds and bonds, those other investments, you get a 1099 each year. The annuity, you only pay taxes when you pull it out. So when a withdrawal is made from an accumulation contract, it's last in, first out. If you know accounting terminology, the last money to get there is the first that has to come out. That's the interest earning. So an example, put $100,000 in and you made 5%. The account is 105. If you pull a free withdrawal of 10,000 out, 5000 of interest comes first. That's fully taxable as ordinary income and the 5000 of principal is a tax free return of premium. So I mentioned a table in this letter. I haven't put it in there, so maybe I should do that. Now if you do a 5% gain the following year, so say you got a fixed news, just 5%, you got an account value of 99,500 with an available free withdrawal of 99 50. So that's 4500 interest earnings that are taxed and the remaining 54 50 of that would be tax free. Now there's 90,000 left of basis. Whenever that comes out, that's tax free. Right. Okay. Qualified assets. So that's pretty straightforward, right. Qualified assets, IRA, Roth, four hundred and one k, et cetera. They're all iras once they're in an annuity. So that is easy. You got a tax deduction for it. So when it comes out, you will pay taxes on it. There's no way around it. Well, there's a couple of, really, I don't know anybody that would want to do it, though. I don't know. Don't call me and ask about that anyway. But yeah, you got to pay taxes when it comes out. When you're growing inside an annuity with an IRA, there's no additional tax benefits for tax deferral because you're already getting that with the IRA. That's part of the deal. And then the big one here is this is where there are some differences in taxation for income annuities. Let's see, for iras, qualified assets. Again, same thing. No matter what type of annuity you have, it's all going to be taxable when you pull it out. Non qualified money after tax, taxed a couple of different ways with an income annuity, the simple version, single premium immediate annuity. You give the company money and they guarantee a payment monthly. We sold a fair number of those in the last year because their payouts are really good right now. And a lot of people are enjoying some mailbox money every month. Actually, it's bank account money because the postal service has not been that reliable. And I suggest you all set up a direct deposit every month anyway. You do that with after tax cash. Typically you get what's called an exclusion ratio, a portion of each payments, return of principal and another portion is interest. So put $100,000 in, say you're getting $7,000 a year. Whatever the payout is, it'll tell you out of $7,000, it'll do monthly. The taxable portion is going to be 2000 tax free is going to be 5000, something like that. So it's stated. And a lot of people like that, they know what to expect. I have seen in some cases an insurance company issues a letter and they state that all income payments, a non qualified contract, all income payments are tax free until you've recouped the initial premium, $100,000 in $7,000 in payments. Once you've received $100,000 worth of payments, then you're fully taxable on those payments. That has happened and it's case by case. So you got the exclusion ratio or some companies will do that. I have seen it happen more than once. But the idea is you kind of have a little wiggle room, honestly, and you can report it however you want, depending on who the accountant is. Okay. So you're probably best to stick with just reporting what the 1099 gives you. But there's an argument for another way if you really want to. Some people wouldn't want to invite the trouble and definitely it's not a recommendation to do that either. But if the company gives you a letter saying it's taxable until you get your money back, then you're okay because they're not going to send you a 1099. So if you got fixed index annuities or variable annuities with an income rider, those are popular as well because a lot of people like to maintain that cash balance. But the taxes get kind of tricky. Remember, it's last in, first out growth's got to come out first. So if you're taking an income payment, that growth in that contract is going to be variable every year. So the taxable amount is going to be different as well. So you're taking your income payment out of it and a portion of that was what the account grew during the year. With a variable annuity, you could lose money and potentially have a fully tax free payment. Non qualified again. But it's going to be different every year because the account value is going to go down a little bit. It's going to grow, you're going to have a variable taxes to pay. Right. So it's going to be different all the time. That has been a deal breaker for more than one person I've talked to. They say I'm just going to go with the immediate annuity because I know what to expect. So something you should consider. And again, you buy those non qualified contracts with an income rider. Once that account value goes to zero, it's a fully taxable payment. So it's all going to work out about the same in the long run, but you just kind of need to know what to expect from the beginning. Here's a big one. Taxation for inherited annuities. I did a whole podcast on inherited annuities. It was one of the very early ones, like in the single digits, like the 7th or eigth episode, maybe 10th, I don't know, way back when. It's been almost three years. Crazy. So passing an annuity to beneficiaries, there's an unlimited spousal transfer that does not trigger a taxable event. As for the next generation of beneficiaries, the rules on distributions will apply. So qualified IRA annuities give the second generation ten years to distribute the entire account. That was changed in 2019. You used to be able to stretch them out. All distributions are fully taxed as ordinary income. You got ten years to do it as of today. That's the rule. You can do it all at once at the end, or you can do it systematically over time. I've talked to a couple of people who are dealing with that. Most people don't want to take a giant hit and choose to do it incrementally if possible. Government wants their money, so you got to give it to them somehow. Non qualified annuities, again are last in, first out, but the beneficiaries have three different options for distribution. Again, I did an entire podcast on this. A lump sum payout would create the biggest taxable event with all earnings fully taxable. I know several people who listen to this podcast who bought variable annuities a long time ago, 30 years, 35 years, and they've just accumulated and grown. So they're three or four times what the initial premium they put there. So like a $200,000 investment in 1992 is 800 and 5900 thousand dollars. There's an enormous taxable hit there. So your first option as a beneficiary of that is to just liquidate it and pay taxes on a giant amount of money, which is probably not the best thing to do. You can also opt for a five year payout where you spread the taxes evenly over a five year distribution period. So that's allowed. And what still exists for non qualified inherited annuities, which makes it. I know a couple of people I've talked to that have a big portfolio of annuities that they plan on just leaving to their kids or something. And I tell them it's like you realize you really set them up for retirement because not only are those going to be highly appreciated at that point in time, but the best option for those kids is probably going to be to stretch it. They're going to get it when they're approaching retirement, probably in their highest income earning years. And the best thing to do is stretch it, where you get to take incremental payments over life expectancy. I suggest doing that. I did that for a friend of mine with an IRA before the stretch rules went away in 2019. And why would a 38 year old girl buy an annuity with her mom's IrA when she inherited a large amount? Well, she gets a check every single month with her mom's name on it for the rest of her life. That's pretty amazing. That's a legacy. So if she passes on an account value, her kids are going to get a check for a long time with grandma's name on it. One way to be remembered. And for the next 40 some years, this friend of mine's younger than I am, but by a year. And they're good income earners, too. So what they're doing is they're taking it and then they're doing sep IRA contributions. Big crazy deal. But I said, hey, this is a pretty cool deal, but that's available to non qualified inherited annuities. Again, a whole episode on it. I guess I shouldn't spend too much time on it, but that's about it. Taxes, we got deferred accumulation contracts. Last in, first out. We got income annuities, whether it's a spea or got an income rider contract with the cash value. We've got inherited annuities, all that stuff. Those are the taxes, the letters on the website, if you want to refer to it. I got to clean it up because there's a couple of things that I just noticed as I was doing this. There's a couple of things that are duplicated in here. So I'll go clean it up, make sure it's a good, easy read for you guys. But anyway, this has been episode one. And Brian Anderson, I certainly appreciate you joining me for this. If you want to get in touch with me, schedule a call. Top right corner of says schedule a call. Click the button, enter your name, phone number, pick a date and a time and write some notes about what you want to talk about. I will give you a call. I will call you. A lot of people have questions about that, but I'll call you anyway, looking forward to a great year. We got really good deals still available. Rates are down just a bit, but you can get in on it and still get something safe, lucrative worthwhile and help you sleep at night. That's the point of doing this, and that's the point of doing it right. So thank you again for joining me. I'll see you back next week for episode 120. Okay, have a great day. Bye. [00:14:45] Speaker A: You have been listening to annuity straight talk. The precision information is for informational and educational purposes only and does not represent tax, legal or investment advice. The views expressed by guests on this program are their own and do not necessarily reflect the views of annuity straight talk or its partners. No information presented today should be acted upon without meeting with a qualified and licensed professional. It is important that you read all insurance contract disclosures carefully before making a purchase decision. Guarantee are based on the financial strength and claims paying ability of the insurance company.

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