Annuity Inheritance Tax Explained

Buyers of annuities should be aware of the annuity inheritance tax. For example, a recent ruling by a Louisiana appeals court stated that the entire death benefit from a single premium annuity plan paid to the beneficiary named in that plan was subject to inheritance tax because it was part of the deceased annuity owner's estate. Since individuals may purchase annuity plans to avoid such taxes, it's important for investors to learn as much as they can about the potential annuity inheritance tax.





The Louisiana Court Case



In this case, a son was the sole heir of his deceased mother's estate. He was also the named beneficiary for the death benefit from the nonqualified, tax-deferred, single premium annuity plan she had purchased over her lifetime. The tax collector claimed the entire death benefit should be subject to the inheritance tax. The son disagreed, claiming that the annuity was the same as a life insurance policy and should not be subject to any tax, and that the earnings part of the annuity, being classified both as "income" earnings and "inheritance" to the beneficiary, constituted unconstitutional, double taxation. The courts, however, disagreed. The Appeals Court ruled that proceeds are not like those from life insurance and so are subject to inheritance.





Deferred Variable Annuities



One of the significant features of a deferred variable annuity plan is that payouts are treated as ordinary income. If the owner of the plan dies before the annuity's beginning date, all of the interest has to be distributed within five years of the individual's death, except when certain conditions apply.



If a designated beneficiary is the spouse of the annuity owner, at the owner's death, the spouse becomes the owner of the annuity, and no distributions have been made. Therefore, the spouse keeps the deferred status of the plan. If an annuity owner dies during the accumulation phase of the plan, its cash value can be included in the deceased estate if its payable to that estate. If the annuity owner dies after payouts have started, the remained of the annuity contract must be distributed as quickly as the in-force distribution method allows.





In General



Death benefits from a deferred annuity are considered ordinary income to the beneficiary of that annuity, just as the amounts would have been to the owner of the annuity if he or she had lived. If a lump sum benefit is involved, taxes can be deferred on that amount if the beneficiary chooses to receive a lifetime payout within sixty days of the owner's death.





For more information from Steven on how to invest in annuities and common investment mistakes, visit his Annuities Investment Guide. To learn more about the retirement annuities, visit the Immediate Annuity and Deferred Annuity Guides.