by John Darer® CLU ChFC MSSC RSP CLTC
A lifetime annuity
- Turns part of your settlement recovery, or savings, into guaranteed income you can’t outlive. The mortality risk is shifted to a life insurance company whose business it is to assess mortality and who possesses the economy of scale to spread that risk out over all of its policyholders and annuitants.
- Can lock in an immediate or deferred income stream for life (immediate annuity or deferred income annuity)
- Means you can receive stable ,secure, guaranteed* payments regardless of market conditions
- Payments may cease upon the death of the measuring life, OR can include guarantees that provide an alternative way to address the possibility that the measuring life will die prematurely.
Taxation of Lifetime income Annuities
Generally, with respect to income taxes,
- Where a structured settlement annuity is paid for a lifetime, the payments are free of income taxes, if the payments represent damages on account of personal physical injury or physical sickness or are payments from a workers compensation claim. [for more information see Internal Revenue Code Sections 104(a)(1) and 104(a)(2)]
- If the lifetime annuity is purchased by you from your after-tax savings ("non qualified" annuity ), some of the income is not subject to tax. To figure out how much income is excluded you must first calculate the exclusion ratio. The exclusion ratio is your net investment in the annuity (amount you paid for the annuity) divided by your expected return from the plan. The expected return is the total amount of annuity payments that you'll receive. Generally, an annuity provides for lifetime payments, so the total amount of annuity payments depends on your life expectancy at the annuity starting date. For example, if your net investment is $100,000 and the expected return through your life expectancy is $250,000 then the exclusion ratio is .40 (100,000 divided by 250,000). [ for more information see 26 CFR 1.72-4 - Exclusion ratio]
- If a lifetime income annuity is purchased as part of the settlement of litigation where the damages are taxable (for example an employment related settlement), or as a distribution from a qualified pension plan, then each annuity payment is fully taxable. There is no exclusion ratio.
* subject to the financial strength and claims paying ability of the annuity issuer.