You pay taxes, ordinary income taxes when you take distributions of gain in the policy. Tax deferral can be a powerful feature of an annuity over time. Paying taxes only when you use the gain in the contract can provide an advantage over traditional CDs which tax the CD owner regardless of whether they use the money or not.
It depends what type of Annuity it is and if the Annuity is in a Qualified Retirement Account or not.
If it is in a Qualified account, like an IRA/401k/SEP, then any distribution is 100% taxable.
If it is a non-qualified account, then only withdrawals of the gain are taxed (as income). But since Annuities use LIFO, the gain will be the first part of the Annuity that is distributed.
The growth of a non-qualified Fixed Annuity is tax deferred.
If it is an Immediate Annuity/Lifetime Annuity, then again it depends on the tax status.
For a Qualified account 100% of the distributions/income will be taxable.
For non-qualified, a portion of the payments will be tax-free and considered a "return of basis/premium".
Business Development Officer, T.D. McNeil Insurance Services, Fresno, California
A non-qualified annuity defers taxation until money is withdrawn. When money is withdrawn the gain on the policy is treated as “ordinary income,” while the money invested is merely a return and therefore not taxed. If the annuity is in an IRA it is fully taxed as “ordinary income” when it is withdrawn and may be subject to mandatory distributions and even tax penalties. If the annuity is in a Roth IRA and meets all the requirements it can be withdrawn free of any income tax.
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If it is in a Qualified account, like an IRA/401k/SEP, then any distribution is 100% taxable.
If it is a non-qualified account, then only withdrawals of the gain are taxed (as income). But since Annuities use LIFO, the gain will be the first part of the Annuity that is distributed.
The growth of a non-qualified Fixed Annuity is tax deferred.
If it is an Immediate Annuity/Lifetime Annuity, then again it depends on the tax status.
For a Qualified account 100% of the distributions/income will be taxable.
For non-qualified, a portion of the payments will be tax-free and considered a "return of basis/premium".