Leaving Behind a Non-Qualified Annuity

Presented by David Corwin.

It is widely known that a beneficiary of qualified dollars has the ability to receive payments from the IRA based upon their age (using the Required Minimum Distribution table), which is a much more tax efficient way of receiving the money.  The beneficiary has to make a withdrawal by December 31st of the year after the owner’s death, and of course, the entire withdrawal is counted as taxable income; however, if the entire lump sum isn’t required, it’s much more tax-efficient than taking it as a lump sum and by withdrawing only a portion, the rest of the asset can still grow.

What isn’t as well-known is that non-qualified stretch contracts need to be part of the discussion with the beneficiary when the owner leaves a non-qualified annuity behind.   Let me give an example:  your client started his contract with $100,000 as basis and 25 years later his contract is now worth $250,000 when he passes away.  Without your help, in most of these situations, what will happen is the beneficiary will take a lump sum and not know what is waiting for them; the dreaded 1099 form.  The $150,000 gain will be added to their income, and  where they may have found themselves in the 28% tax bracket in prior years, they may now be in the 33% bracket and pay $49,500 in taxes.  Sound fun?  The way to solve that problem would be to structure a non-qualified stretch contract.  The $250k will go into the contract and the client will be forced by the IRS to make a withdrawal by end of the next year.  If we assume the client/beneficiary is a 40 year-old, then according to the RMD tables his/her factor would be 43.6.  The withdrawal required would be $5,733 ($250,000 / 43.6).  Since we are still dealing with a nonqualified contract and withdrawals are treated last in first out, he would report the whole $5,733, thus keeping him in the 28% tax bracket AND allowing the remainder of the money to continue to grow.  Problem solved.


Posted in Annuities.