Can I Buy An Annuity With My IRA or 401k?

Yes, you can move your IRA or 401k to an annuity tax-free!

Written by Hersh Stern Updated Wednesday, October 28, 2015

roll over transfer ira 401k

Q. Is it possible to roll over my retirement savings, such as my 401k, IRA, or 403(b) accounts into an annuity without paying taxes?

A. You can roll over your IRA, 401(k), 403(b), or lump sum pension payment into an annuity tax-free. Annuities funded with an IRA or 401(k) rollover are "qualified" plans, enabling an insurance company to create an "IRA annuity", into which you can deposit your retirement funds directly.

Additionally, you can have your employer roll over your 401(k) funds into an annuity without withholding any taxes since no mandatory withholding requirements pertain to funds directly transferred into an annuity by an employer.

Q. If I decide to roll over my IRA, 401(k), or lump sum pension payment into an annuity, will I be hit with a distribution tax?

A. NO. The reason you're permitted to roll over these payments into an annuity tax-free is because when you buy an annuity with IRA or 401k money the first thing the insurance company does is create an IRA holding account to receive your transferred funds.

So really buying an annuity with IRA money is the same as moving your money from its current IRA or 401k trustee to another IRA trustee. This kind of transaction is considered a "direct transfer" or a "direct rollover" which is tax-free. You will owe taxes on the monthly income you receive but not on the transfer.

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Q. How can I find and purchase an IRA annuity?

A. Locating and purchasing an IRA or 401k annuity is easy if you take advantage of this website's services. Your first step is to review the annuity rates you find on our site or use the calculator on the left to request a comparison annuity report that we email to you. Review the information and call us (800-872-6684) with all your questions.

When you’re ready to apply, select your preferred insurance company and we’ll send you that company's annuity application with an IRA/401k transfer authorization form. We'll help you complete all the necessary paperwork.

When the insurance company receives your application it begins the roll-over process by sending your signed transfer authorization to your current IRA/401k custodian. After a few days, they in turn send the premium amount to the insurance company. That completes the transfer and your contract is issued and sent to you. As your agent we walk you through every step of the process. This services is provided free of charge.

Q. Can I "lock in" an IRA annuity rate before the insurance company receives my distribution?

A. It is possible to obtain a "rate hold" from many insurance companies. Usually, the quoted rate is maintained for several months, typically one to three, while the cash transfer takes place. "Rate hold" periods typically begin once the insurance company is in receipt of all required forms, fully completed. (For more information about the "rate hold" practices of specific insurers, please call 800-872-6684.)

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We wanted to establish a bit of extra income. There was a good recommendation about on CNN. We also liked that we could see excellent reviews about them on Google. They were very thorough from our first inquiry to when we decided to buy our annuity from Mass Mutual. They always answered our questions promptly and followed up with the insurance company, too. We have been receiving our monthly payments since last November and couldn’t be happier. What more can we say?
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Q. My money is currently in a 401(k) account. How do I roll it over to an annuity?

A. This depends on your employer's procedures for issuing such checks. Best to contact your Human Resources ("HR") department and ask them. They may send you a distribution request form to fill out. Once that's processed you'll receive a check made payable to the insurance company for your benefit.

This type of check is usually sent to the employee's home address. No problem there, since the check is made payable to the insurance company it's still considered a direct rollover and tax-free. Just send the check to the insurance company with a note explaining these are your funds to pay for the annuity you previously applied for. Around May 15th of the following year you'll get a Form 5498 from the insurance company confirming the amount on the check was invested in your IRA annuity.

Some employers accept insurance company paperwork and will cut a check that is mailed directly to them. That makes the rollover real easy.

Q. The lump sum pension distribution check I received from my employer is made out to me rather than to the insurance company. Will I still be able to avoid taxation on the distribution?

A. YES. To avoid taxation on your distribution, you will need to roll over the funds into a 401(k) annuity within 60 days. If your distribution is not settled into an annuity within this time period, you will owe taxes on the distribution. To expedite this process, check with your insurance company to see if it is one of the many that will accept a check made out to you but endorsed to it.

Q. I am under age 59 1/2. What tax penalties will apply to me?

A. If you are thinking of making withdrawals from your IRA or 401(k) but you are not yet age 59 1/2 you can avoid the 10% federal penalty tax by transferring your IRA or 401(k) into an immediate annuity with a "life contingent" payment option. If you receive the income periodically over your lifetime you may avoid the 10% penalty tax on the money you receive. Remember, that you must choose an annuity which will pay you over the course of your (or your and your spouse's) lifetime(s) and not an annuity which only makes payments for a limited period or term certain (for a specified number of years).

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Christine Newson
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You can read about this exemption from the penalty tax in Publication 590 on the IRS site. Scroll to Page 56 for the section titled “Early Distributions.” Then go to the sub-section titled “Age 59-1/2 Rule,” and its sub-section called “Exceptions.” One of the exceptions is the “Annuity” rule which says: "You can receive distributions from your traditional IRA that are part of a series of substantially equal payments over your life (or your life expectancy), or over the lives (or the joint life expectancies) of you and your beneficiary, without having to pay the 10% additional tax, even if you receive such distributions before you are age 59½... There are two other IRS-approved distribution methods that you can use. They are generally referred to as the fixed amortization method and the fixed annuitization method." An immediate life annuity calculates its payments based on the fixed annuitization method, and, thus, satisfies the penalty exception rule.

Q. Do you provide assistance with IRA or 401k rollovers?

A. ABSOLUTELY! Since 1983, Hersh Stern, the principal of, has helped thousands of 401(k) and IRA holders roll over their lump sum pension payments to an annuity, without the need to pay taxes. This is a simple process with the right help, and we are here to answer your questions concerning rollovers and other options with expert advice. Call our customer care department toll-free at 800-872-6684 and we would be glad to help you.

IMPORTANT DISCLAIMER: This information is not intended to provide legal or tax advice. Before making any decisions related to the rollover of a qualified account into an annuity you are strongly advised to consult with proper legal or tax professionals to determine the tax consequences in your financial situation.

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Comments (42)

  1. Ron:
    Jan 23, 2015 at 12:25 PM

    If I buy an annuity by moving money out of two IRA's and transferring it to an insurance company are there any tax implications? I am aware that all lifetime income payments will be taxable when we receive them.

    Am I also correct in assuming that I can purchase an annuity for my wife's lifetime with money from my IRA?

  2. Hersh Stern:
    Jan 23, 2015 at 12:42 PM

    Hi Ron,

    You are permitted to blend two IRAs into one immediate annuity in order to create an income stream that covers you alone or both you and your wife. So, yes, the transfer from your IRA to the insurance company is tax-free.

    However, you cannot buy an annuity for your wife’s lifetime with money from your IRA. If you want her to benefit from your IRA while you’re living, it must be a joint life annuity covering both of you.


  3. Ed:
    Feb 09, 2015 at 11:34 AM

    Does the 10% penalty on taking your pension early drop off when the person receiving the pension turns 59 1/2 ?

  4. Hersh Stern:
    Feb 09, 2015 at 11:57 AM

    Hi Ed-

    In your situation with a 10-year period certain annuity the 10% federal penalty tax will apply on distributions received prior to 59-1/2 but not on distributions received after that age.

    You may already know that there are exceptions to the 10% penalty tax. As an example a Series of Equal Periodic Payments based on life expectancy that must continue to the later of age 59-1/2 or 5 years. Of course, a life annuity would also be another exception.

    The following paragraph is from IRS Publication 590-B for your reference:

    "Is there an additional income tax on early distributions from retirement plans and IRAs?

    "An additional 10% tax applies to early distributions (before the participant reaches age 59-1/2) from a retirement plan or IRA under Code §72(t)(1). Section 72(t)(2) lists exceptions to this tax, including distributions received in substantially equal periodic payments."

    Take care.

  5. Allen:
    Feb 19, 2015 at 01:31 PM

    Can my wife and I pool our IRAs and buy one annuity?

  6. Hersh Stern:
    Feb 19, 2015 at 01:46 PM

    Sorry, Allen, but Uncle Sam says no can do. An individual IRA can have only one owner. If you pooled your monies your “combination” IRA would belong to both of you and that is not permitted.

    However, all is not lost because you can buy a joint life annuity covering both of you using the proceeds from your IRA and remain the sole owner of that annuity. Similarly, your wife can buy an annuity with her IRA money and also cover both of you. In that way you accomplish your original goal. In fact, the monthly income fro these two annuities would be practically the same amount as you might have received from purchasing two separate joint life annuities.


  7. Alma:
    Feb 25, 2015 at 12:58 PM

    I’m thinking of retiring at age 56 or 57. Will I have to pay penalties if I roll over a portion of my 401(k) into an annuity and collect the interest on a yearly basis?

  8. Hersh Stern:
    Feb 25, 2015 at 01:22 PM

    Hi Alma-

    Unfortunately, the answer is yes. Any interest withdrawals from your 401(k) will have an early distribution tax penalty of 10% unless you are at least 59-1/2 years old or if you qualify for an exception to the early withdrawal penalty. The list of exceptions is covered in IRS Publication 590 which you can locate here:


  9. Bill:
    Feb 27, 2015 at 11:07 AM

    My wife died recently. She had a $90,000 IRA which I want to buy an annuity with. Can I do that?

  10. Hersh Stern:
    Feb 27, 2015 at 12:48 PM

    Hi Bill-

    Sorry that you lost your wife.

    Regarding the annuity — what you have is called a spousal inherited IRA. You are permitted to buy an annuity with that money just make sure that the transfer takes place directly from the current IRA custodian to the insurance company. There is no 60-day rollover rule when inheriting IRA assets. So if you should receive a check from the current IRA custodian, that money will be taxed as ordinary income. You will be able to roll it over into an inherited IRA annuity. I suggest you consult a CPA for advice.


  11. Mike:
    Mar 10, 2015 at 11:53 AM

    If I rollover a portion of my pre-tax IRA assets into an IRA Immediate Annuity (with spouse as Joint Annuitant), am I disallowed by IRA rules from having a '20 yr Certain' feature on this annuity? In other words, must a pre-tax IRA immediate annuity be in the form of single or joint life only, with no possibility of payout period certainty?

  12. Hersh Stern:
    Mar 10, 2015 at 12:21 PM

    Hi Mike-

    You can add a period certain, installment refund, or cash refund beneficiary payment to an IRA immediate annuity. But there may be limits to the length of the beneficiary payment period time you can select so it doesn’t exceed the number of years remaining in your RMD divisor. I’ll explain with an example.

    Say a 75 year old man decides to transfer some money from his IRA to an insurance company in order to set up an immediate annuity. According to the RMD table, his distribution period divisor is 22.9 this year. In other words, he’s obligated to withdraw 1 divided by 22.9 of his IRA accounts this year as taxable income. Now if he bought a life annuity with a 40 year guarantee, the amount of income he would be receiving from this annuity this year would roughly 1 divided by 40. That’s way less than he’s obligated to withdraw according to RMD rules.

    So you can add the period certain to your annuity, but take care not to have it be longer than the distribution period for RMDs.


  13. Paul:
    Mar 16, 2015 at 10:01 AM

    I’m thinking about transferring money from my IRA into an immediate annuity. My account has both traditional IRA contributions plus non-deductible IRA contributions. Can I buy one annuity with both types of money?

  14. Hersh Stern:
    Mar 16, 2015 at 10:13 AM

    Hi Paul,

    Sorry, but insurance companies will not issue an immediate annuity which is funded with commingled pre-tax and after-tax monies. The reason is that the monthly income you receive from a pre-tax IRA is considered all taxable income.

    While income received from a non-qualified annuity (one purchased with after-tax money) gets favorable tax treatment, only a small portion of each monthly payment from that annuity (the part representing new interest earned) is taxable. Your original after-tax investment amount (“cost basis”) is not subject to income tax. That would be double taxation.

    So it behooves you to buy two separate annuities each funded with monies of the same tax status, not commingled monies.

    I’d also suggest before you start this process ask your current IRA custodian how it will report the tax status of the transferred funds. Will they tell the insurance company how much of the check amount is pre-tax and how much after-tax.

    Frankly, even if the custodian company tells you they will let the insurer know how much of each type of money is being transferred, my experience informs me that the least risky way to handle this transaction to avoid reporting mistakes is to first split up your existing account before any transfer takes place. Open a new account with the present custodian and move all the after-tax money into that account. This way, you will have separated the pre- and post-tax monies at the source and there will be no way for anyone to confuse the tax status of your two annuities.

    Good luck.


  15. Jessica:
    Mar 16, 2015 at 10:14 AM

    Once I roll over my traditional IRA to an annuity, can I contribute each year to my annuity plan tax deferred?

  16. Hersh Stern:
    Mar 16, 2015 at 10:32 AM

    Hi Jessica-

    The answer will depend on what you have in mind to accomplish with an annuity and whether those goals can be met with the type of annuity that is either “single premium” or “flexible premium.”

    We’ll start with a definition: A single premium annuity is always purchased with a one-time lump sum investment. A flexible premium annuity accepts additional premium payments (which you can make on occasion or on a recurring schedule).

    Let’s apply these definitions. If the reason you’re considering an annuity is to set up a monthly income for life and you’d like that income to begin immediately, then that type of annuity you have in mind is called an “immediate annuity.” An immediate annuity is always purchased with a one-time lump sum investment. Insurance companies do not accept additional premium deposits into an existing immediate annuity contract because your monthly income is determined and locked in based on the level of interest rates at the time you make your initial investment.

    Of course, you can always buy another immediate annuity by investing each year’s IRA contributions in a new contract.

    If you’re not ready to receive immediate lifetime income there are growth-type annuities to which you can add your annual IRA contributions. These are called “flexible premium” annuities. Examples of these are deferred interest (MYGA) or indexed annuities. You can read more about them by clicking these links:

    Deferred interest annuities (MYGA):

    Indexed annuities:

    One final point. It’s important to know that the majority of flexible premium annuities impose early surrender fees that restrict your access to your cash value. These surrender fees tend to be enforced on what’s called a “rolling basis.” This means, each year’s new investment in a flexible premium annuity will be subject to the full surrender fee schedule. So even in your 10th contract year when surrender fees may have disappeared from your original, first year’s deposit, there will likely be surrender fees on withdrawals from the 2nd, 3rd, etc., year’s deposits.


  17. Karri:
    Mar 27, 2015 at 09:39 AM

    I borrowed money against my 401k to purchase a house. My husband has an annuity that is just sitting there. Can he roll over his annuity into my 401k to pay back the loan? Thank you.

  18. Hersh Stern:
    Mar 27, 2015 at 12:39 PM

    Hi Kerri-

    I think what you are asking is whether he can transfer money to your 401k tax-free.

    First, let’s assume your husband’s annuity is funded with IRA or 401k money. So he owns what I call an IRA annuity. Now, if his annuity has a liquidity or withdrawal feature he could request a transfer of its cash value into an IRA or 401k account that he owns.

    However, since couples are not permitted to commingle IRA or 401k accounts, these need to be kept under separate individual ownership, I believe your husband cannot roll over money from an IRA annuity at he owns into a 401k account that you own, without triggering a taxable event.


  19. Michael:
    Apr 06, 2015 at 03:58 PM

    Can I roll over an IRA to an annuity and not be forced to take distributions at 70-1/2? I have enough income until age 80 and I want to be covered after that time.

  20. Hersh Stern:
    Apr 06, 2015 at 04:00 PM

    Hi Michael-

    Yes, you can delay RMDs until age 85, on up to $125,000 or 25% of your IRAs (whichever is less) by purchasing a “QLAC.” I’ve written a detailed article about QLACs here:


  21. Harvey:
    Apr 13, 2015 at 10:03 AM

    I am 85 and have a traditional IRA. Therefore I must take annual required minimum distributions using a different factor(based on age)each year. Can I transfer this IRA to an immediate annuity? If so, would my monthly annuity payments remain constant?

  22. Hersh Stern:
    Apr 13, 2015 at 10:21 AM

    Hi Harvey-

    Yes, you can transfer your IRA to an immediate annuity at any age.

    You only need to make sure you cover the RMDs related to the amount of money you are depositing into the annuity in the 1st calendar year that you own the annuity. Beginning with the 2nd calendar year you no longer need to calculate or remove RMDs from the annuity. An immediate annuity is considered by the IRS to satisfy RMDs beginning with the second year.

    I recently updated my detailed explanation about RMDs and annuities here:


  23. John:
    Apr 21, 2015 at 10:24 AM

    If I take 100,000 from an IRA, do I have to pay the income tax at that time?

  24. Hersh Stern:
    Apr 21, 2015 at 10:26 AM

    Hi John-

    When you apply for an annuity with IRA money, the insurance company sets up your annuity as an IRA account. All monies sent by your current IRA custodian to the insurance company are directly deposited into this new IRA account. Therefore, no income tax is due per IRA direct transfer rules.

    You could even receive a check from your current IRA custodian, deposit it in a non-IRA savings account, and as long as you rolled over that same amount into an insurance company IRA annuity within 60 days, you would still not owe income tax per IRA rollover rules.


  25. Ian:
    May 06, 2015 at 10:05 AM

    If you purchase a qualified deferred fixed annuity with funds from an IRA and it begins paying a lifetime income after age 59 and 1/2 but before RMD age, can you choose to have the payments stay in the qualified plan or in your IRA? Or do you have to take the money and pay taxes on it? I cannot figure out the answer to this question!

  26. Hersh Stern:
    May 06, 2015 at 10:08 AM

    Hi Ian-

    Let’s see if I understand your question.

    You are considering buying an annuity (today) with money from an IRA. Your strategy is to delay receiving any income from this annuity until sometime in the future but before you reach age 70-1/2 (when Required Minimum Distributions – RMDs are due).

    I inferred from your question that you won’t need the money from the annuity (before age 70-1/2) yet you want the annuity to start paying income before 70-1/2, albeit, into an IRA. Hmmm.

    How about delaying the start of income until you really need it? Under the new QLAC rules you can delay taking money from an IRA until age 85 (way past the RMD date).

    You can read more about QLACs here:

    Getting back to your question-- the direct answer is YES. You can open a self-directed IRA and buy an annuity using IRA money and have it held inside that self-directed IRA. Then whenever you turn on the income spigot, those distributions will still be inside an IRA. Be wary, though, of RMD rules which require you to aggregate the fair market value of your self-directed IRA with your other qualified accounts.


  27. Bridget:
    May 15, 2015 at 09:54 AM

    My mom is 72 and has an IRA annuity that is annuitized. Can she take the annual payout and directly roll it to her traditional IRA without any tax consequences? (tax free rollovers) or is the payout taxable. The IRA annuity was funded with pre-tax funds. Thank you.

  28. Hersh Stern:
    May 15, 2015 at 09:55 AM

    Hi Bridget,

    When you receive annuity payments from an IRA annuity, they are considered distributions and are taxable as “ordinary income.” Of course, you can do whatever you’d like with the payments as long as you are aware that income tax is due on them. If you have earned income you can take this “after-tax” money and deposit it as this year’s new contribution.

    Just to review, IRA contributions can only come from so-called “earned income”, which is limited to:

    wages, salaries, tips
    union strike benefits
    long-term disability benefits received prior to the minimum retirement age of 55
    and net earnings from self-employment.


  29. Larry:
    May 15, 2015 at 10:55 AM

    I'm thinking of moving my money from my 401K into an annuity. Do I start with my previous employer's 401k department?

  30. Hersh Stern:
    May 15, 2015 at 10:58 AM

    Hi Larry,

    Once you decide the type of annuity and the amount you want to purchase, we'll provide you with an application which includes the insurance company’s transfer authorization form. This form directs your 401k administrator where to send the money that you want to roll over from your 401k account. Most 401k plans will honor the insurance company’s request and, after a few days of processing time, send the premium to the insurance company.

    However, you will want to contact the custodian of your 401k to make sure that they will release money to the insurance company based on the insurer’s paperwork. Some 401ks require you to complete their own forms and may not accept the insurance company’s paperwork. Your 401k may require that the check for the annuity be mailed to your home address. The check will be made payable to the insurance company so you don’t have any tax issues. You then mail this check to the insurance company yourself.

    It’s important to know that most insurance companies allow you from 30 to 60 days to have your money transferred to them while guaranteeing that the annuity rate you were quoted will not change. This is called a “rate lock” and is similar to a mortgage commitment which banks give to borrowers when their homes are being prepared for closing.


  31. Doug:
    Aug 03, 2015 at 07:15 AM

    I am 53. I have $100,000 in an IRA. Can I buy an immediate annuity for a fixed 7 year payout. I believe it has to last at least until I am 59.5 years old. The reason is that we can use that income for the next 7 years but won't need it after then.

  32. Hersh Stern:
    Aug 03, 2015 at 07:15 AM

    Hi Doug-

    There are several layers to your question. I’ll address them in order.

    1. Yes, the insurance companies we represent do sell 7 year period certain annuities. With that kind of annuity your $100,000 plus the earned interest would be completely distributed to you in equal payments over the 7 years. So by the end of the 7th year, your policy would end without no cash value. If you’d like to get quotes for this type of annuity email me and I’ll send them to you.

    2. While this limited period annuity is available, if you buy your annuity with IRA money, there will be a 10% tax penalty to pay. First, know that the transfer from your IRA account to the insurance company would be tax-free. But because you’d be receiving withdrawals of IRA money prior to age 59-1/2 you will be subject to the 10% federal tax penalty on early IRA distributions. So, for example, if you’re in the 25% tax bracket, the income tax on this income would be taxed at 35% (i.e., 25% plus 10% penalty tax).

    3. You may have heard that income from an annuity qualifies as an exception from the pre-59-1/2 tax penalty. That is only true if you buy a lifetime annuity or take payments under the SEPP rule. Either way the monthly payment from a life annuity or SEPP withdrawal would be a much smaller dollar amount than how much you would receive by distributing $100k over a 7-year period.


  33. Don:
    Sep 14, 2015 at 12:45 PM

    If I purchase an immediate annuity for the joint lifetime of myself and my spouse (both over 71 years) from money that is in an IRA I assume the yearly payment from the annuity is paid within the IRA, meaning that it will remain tax deferred until taken out? I understand the year of purchase RMD rules and I understand that the yearly annuity payments are almost entirely return of capital in the early years.

  34. Hersh Stern:
    Sep 14, 2015 at 12:46 PM

    Hi Don-

    You wrote “I assume the yearly payment from the annuity is paid within the IRA, meaning that it will remain tax deferred until taken out.”

    Sorry, but that’s not how this works. Income generated by an IRA annuity is considered a taxable distribution. Once paid out from your IRA it no longer is tax-deferred.


  35. Debra:
    Sep 18, 2015 at 01:05 PM

    I have a 401k that is with a well known brokerage (Fidelity). All of my 401k funds are invested in mutual funds and bonds. Do I need to sell my mutual funds and bonds before I can roll them over to an annuity? That is, do the funds that are rolled over from a 401k to an annuity need to be cash?

  36. Hersh Stern:
    Sep 18, 2015 at 01:06 PM

    Hi Debra-

    Your 401k funds would need to be in cash in order to transfer them into an annuity. Once the funds have been moved to cash, it’s a very simple process to transfer the funds from Fidelity to your chosen insurance company. With your annuity application will be a transfer form. This allows the insurance company to request funds directly from Fidelity. There are no Fidelity forms needed, the insurance company will handle it all.


  37. Ed:
    Oct 15, 2015 at 07:58 AM

    I have an IRA at TD Ameritrade. I will be 59 1/2 in January. Can I now (or in January) roll it over directly into an immediate, fixed annuity and not pay any taxes at the time I roll it over? I also have a 401K at my former company. I am unemployed but I can still use the 401K. Can I move that directly to an immediate, fixed annuity and not pay any taxes at the time I roll it over? If so, when would I pay taxes on that money?

  38. Hersh Stern:
    Oct 15, 2015 at 08:00 AM

    Hi Ed-

    You can roll over the IRA or 401k money to an insurance company immediate annuity at any age, even prior to age 59-1/2, without adverse tax consequences. That’s because the annuity will be issued as an IRA, so the funding of this annuity is really a rollover itself. The money is going from one IRA to another IRA which makes it tax-free (as long as this is the first time these monies are being rolled over directly from the IRA or 401k to the annuity, and not the second or third rollover of the same money within the last 12 months).

    Regarding the 10% federal tax penalty for receiving monthly income or distributions from an IRA before you reach age 59-1/2-- That penalty does not apply when the income is being paid to you from a lifetime immediate annuity. Income from a lifetime immediate annuity is one of the exceptions to the 10% penalty law. In fact, even someone just 30 years old can receive income from his or her immediate IRA annuity and avoid the 10% penalty tax. There are no age restrictions as long as the income is being paid from the lifetime immediate annuity.

    Ordinary income taxes are owed on the monthly payments you receive. You can ask the insurance company to withhold federal and/or state taxes from each payment, or, pay quarterly estimated taxes on your own.


  39. Jeffrey:
    Oct 26, 2015 at 02:32 PM

    Assuming somebody had $100k available in both a taxable and qualified account and wanted to use the $100k to purchase an immediate annuity. Is it correct to assume it would be better to purchase it from the taxable account?

  40. Hersh Stern:
    Oct 26, 2015 at 02:33 PM

    Hi Jeffrey-

    Rather than answer yea or nay, I’ll review some of the pros and cons here and I suggest you meet with a fee-only financial planner for help with deciding the best route for your financial situation.

    Qualified money—Examples would be the money you have in an IRA, 401k, or tax-sheltered annuity (403b). The benefit of accumulating money in a qualified plan is that the money grows tax-deferred. So you’re not paying taxes on each year’s earnings. This permits subsequent years’ earnings to compound on an ever-growing base. Over time, more money accumulates in a qualified account than in a non-qualified account, all other considerations held equal.

    The downside with a qualified account is that when you finally take withdrawals or receive distributions, you‘ll owe taxes on the full amount withdrawn that year (this is not the case with income received from a non-qualified annuity as I’ll explain below). So if you are in a lower tax bracket after retirement, the argument goes, it’s better to deferred the taxes while your money is in the “accumulation phase” in a qualified account until such time when your tax bracket is lower. In reality, research has shown that tax brackets do not drop for everyone at retirement. If you have a high net worth, it’s likely, income from your investments plus social security, etc., will keep you in the 30%-35% federal plus state bracket for the rest of your lifetime. (This also does not take into account the possibility tax rates increasing over time.)

    Non-Qualified money—Examples are your checking or savings accounts or a certificate of deposit (though you can also keep savings and a CD inside an IRA or 401k account).Earnings on non-qualified money are taxed in the year earned.

    If you bought your annuity with such non-qualified or “after-tax” money, then only a fraction of each year’s annuity income would be subject to income tax that year. The larger portion your annuity income is received by you tax-free.

    So that’s an overview. One more consideration—Your IRA/401k money is subject to Required Minimum Distributions (RMDs) when you reach age 70-1/2. That means you’re obliged to withdraw a fraction of your IRA/401k accounts (around 3.5% in the first year and increasing slightly each year thereafter) and pay income taxes on that amount withdrawn. So a small amount of your qualified money moves to the non-qualified side of the ledger each year.


  41. Jerry:
    Nov 10, 2015 at 07:22 AM

    Am I taxed on tax qualified money I place into an annuity?

  42. Hersh Stern:
    Nov 10, 2015 at 07:23 AM

    Hi Jerry-

    The answer is NO and YES:

    No -- you are not taxed on the rollover from your current IRA account into the annuity (which is set up as an IRA, too).

    Yes -- Once the annuity begins making payments to you, then YES, you are taxed on the income as received.