select login

Understanding Tax Deferred Annuities



A Tax Deferred Annuity is a contract between you and an insurance company for a guaranteed interest bearing policy with guaranteed income options. The insurance company credits interest earnings on your premium, and you don't pay taxes on the interest earnings until you make a withdrawal from your annuity or begin receiving regularly scheduled income from your annuity. This is known as annuitizing your annuity contract.

A Tax Deferred Annuity is a financial vehicle specially designed for retirement savings, with tax benefits that encourage the buyer to save until they are at least 59 1/2 years old.

Annuities also have unique features for paying out the funds they accumulate. Annuity owners can structure a payout plan that fits their need for income over the remainder of their lifetime or their lifetime and that of a joint annuitant.

A period certain option is also available during which all proceeds will be paid out over a specified period of time.

Unlike a bond or a certificate of deposit your annuity policy does not "mature". Both your principal and interest will automatically continue to earn interest until withdrawn or you reach age 100 (in most states).

You can let your money grow, make withdrawals or, subject to applicable withdrawal or tax penalties, begin receiving an annuitized income at any time.


Tax Deferral


Tax deferral means postponing paying the taxes on interest earnings until withdrawal at a later point in time. In the meantime you are able to earn interest on the money you may otherwise have paid in taxes.

The advantage of tax deferral, when compared to a taxable investment, is that your premium earns interest, your interest earns interest, and the amount of money you otherwise would have paid in taxes earns interest.

An annuity allows you to accumulate more money over a shorter period of time, which potentially will provide you with a greater income.

You pay no taxes on the earnings of your annuity while your money is compounding. You may also pay a lower tax on random withdrawals because you control the tax year in which the withdrawals are made. If your annuity is funded with after tax dollars you'll only pay taxes on the interest withdrawn.

Tax deferral gives you potential control over an important expense - your taxes.

To understand the increased earnings capacity of tax deferred interest, compare it to fully taxable earnings. A single sum of $25,000 at 6% will earn $1,500 of interest in one year. A taxpayer in a 31% federal income tax bracket will find that approximately $465 of these earnings will be payable in taxes, leaving only $1035 to compound the next year.

If these same earnings were tax deferred the full $1500 would be available to earn even more interest.

The longer you can postpone taxes, the greater your potential gain.


Tax Advantages of Fixed Annuities


Many people are discovering the advantages of tax deferred savings plans. The traditional savings dollar may be taxed every year. By postponing that tax with a Tax Deferred Annuity, your money compounds faster because you can earn interest on dollars that likely would have otherwise been paid to the IRS.

Later, if you decide to take a monthly income, your taxes may be less because they will be spread out over a period of years.

Similar to many CD's, annuities may have a penalty for early surrender.


Safety


Your Tax Deferred Annuity is safe. As a qualified legal reserve life insurance company, United Heritage Life is required to meet its contractual obligations to you. The reserves must, at all times, be equal to the withdrawal value of your annuity policy. In addition to reserves, state law also requires certain levels of capital and surplus.


How Do Fixed Annuity Contracts Work?


Annuity contracts go through two distinct phases: an accumulation phase and a payout phase.

When you purchase an annuity contract, you deposit a sum of money (single premium or flexible premium depending upon contract design) with an insurance company. During the accumulation phase, this money earns interest at a competitive rate, usually slightly higher than a Money Market account or a Certificate of Deposit. The interest on this money will not be taxed until it is withdrawn.

During the payout phase, the insurance company begins making regular payments to you, while the account continues to earn interest.

These payments can be made monthly, quarterly, semi-annually, or annually, as you select. If your annuity is funded with after tax dollars only the interest portion of each of these payments is taxable, the rest is treated as a repayment of your principal. There are a number of different options that can enable you to tailor an annuity contract to meet your particular investment needs.


No 1099 During Accumulation Phase


There is no withholding tax on funds in your annuity while your account is in the accumulation phase; it is completely tax deferred.

If you request a distribution (withdrawal or annuitize your contract), taxes will be withheld. Under certain circumstances, an election not to withhold taxes can be made at the time you make your request.

Because the interest is tax deferred, it is not necessary to issue a form 1099 while your money is compounding. Only when your interest or qualified premium is distributed will a form 1099 be sent, reflecting the amount of interest or qualified premium actually received as income.


Pre 59 1/2 Penalty Tax


An IRS penalty tax, currently 10%, may be payable on any withdrawal of interest or qualified premium made prior to age 59 1/2.


Probate Avoidance


If death should occur, the accumulated funds within your annuity may be transferred to your named beneficiaries, avoiding the probate process. Like most assets, however, the annuity is part of your taxable estate. Your heirs can choose to receive a lump sum, or a guaranteed monthly income.

If your estate is your beneficiary the proceeds from your annuity will be considered in the probate of your estate.




    United Heritage Life and its representatives do not give legal, tax or accounting advice in consideration of or in conjunction with the purchase of these products.