Brad Pistole

Trinity Insurance & Financial Services

Does a Beneficiary Pay Taxes When Inheriting an Annuity 

The topic of inheritance and taxes—always a fun one to navigate, isn't it? Like many things in life, there are obstacles, and you will need to make choices. Inheriting an annuity can certainly bring up a mix of emotions, and the last thing anyone wants is for the IRS to crash the party.

When you inherit an annuity, you do generally have to pay taxes on it, but the details are a bit more nuanced. First off, you shouldn’t owe any taxes on the principal amount that was originally invested in the annuity. That's the good news; however, any earnings above the principal—also known as the gains—are typically subject to income tax.

Here's where it gets a bit complex. The way the taxes work depends on the type of annuity—whether it's an IRA annuity, a non-qualified annuity, etc.—as well as how you choose to receive the inherited funds. For instance, if you take a lump sum distribution, you could be hit with a significant tax bill all at once.

On the other hand, you could choose to take distributions over an extended period. This option could spread out the tax impact over several years, making the hike a bit more manageable, so to speak. The IRS gives a few options for this, such as continuing the payments as they were set up by the original annuitant or customizing a new schedule based on your life expectancy.

Now let's talk about spousal transfers; if a spouse inherits an annuity, they may generally have an option to treat it as their own, avoiding any immediate tax implications. For non-spousal beneficiaries, the rules are more stringent.

The annuity's tax treatment might also depend on whether the original owner had already started taking distributions (known as the "annuitization phase"). If the original owner hadn't yet started receiving payments, you might have more flexibility on how to receive the funds and, therefore, how they're taxed.

So what's my opinion on all this? Inheriting an annuity is like getting a financial tool with multiple settings. If used wisely, it can provide long-term financial security, but a wrong turn could have you tangled up in a thicket of tax complications. If you find yourself in such a situation, it's critical to consult a tax advisor or financial planner familiar with the nuances of inherited annuities. The topic can be complicated and confusing; you shouldn't navigate the complexities of inherited annuities without expert guidance.

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Brad Pistole picture

Brad Pistole

Trinity Insurance & Financial Services

551 N. Farmer Branch Rd.

Suite 101

Ozark, Missouri 65721

(417) 581-9222

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