WEEKLY EDUCATIONAL UPDATE – APRIL 18, 2018

For many investors looking to secure their cash flow in retirement, annuities are a common way to receive the guaranteed income they need. Different annuities exist, so knowing which option fits your financial life and goals is important. Here are some points on the differences between qualified and nonqualified annuities.

What is a qualified annuity?

A qualified annuity is one that you pay for with pre-tax money. The investment grows tax deferred in exchange for taxable distributions once you retire. The term “qualified” comes from the IRS and refers to the annuity’s eligibility for tax deductions.

What is a nonqualified annuity?

A nonqualified annuity allows you to grow your assets in a similar way to the qualified annuity. One main difference lies in how you fund the investment. Nonqualified annuities use post-tax dollars, meaning you fund the investment with money you’ve already paid taxes on, such as income from wages and tips.

Is each annuity taxed differently?

Yes. Due in part to how you fund each annuity (using pre- or post-tax dollars), you have different tax liabilities when you take distributions.

Qualified

Since you pay into the annuity with pre-tax dollars, the IRS will want to collect taxes eventually. Instead of paying taxes on the money you bought the annuities with, you receive tax-deferred interest credit until you withdraw funds, meaning you pay no taxes while saving. As a result, you’ll pay ordinary income tax on the distributions you take.

If you withdraw funds before you turn 59½, you will have to pay an additional 10% federal penalty.

Other features?

Qualified annuities have maximum contribution limits and limited flexibility. Be sure to consult your financial professional for a more thorough explanation of their functions and limitations.

Nonqualified

With post-tax dollars, you have different tax obligations. Because nonqualified annuities are funded with earned income that’s already taxed, only the portion of a withdrawal considered to be earnings is taxable.

Other features?

Nonqualified annuities have no IRS-set contribution limits or rules on minimum withdrawal. Be sure to consult your financial professional for better understanding of their functions and their limitations.

As with qualified annuities, if you withdraw funds prior to turning 59½, the 10% federal penalty applies.

Your financial needs and goals will determine which annuity strategies and structures you choose to create the cash flow you desire. 

To explore your retirement income goals, feel free to contact us. We’re happy to help you make the most of your financial opportunities.