Tax treatment differences for annuities
Quick Definition: Qualified annuities are funded with pre-tax dollars (IRA, 401k rollover) and follow retirement account rules. Non-qualified annuities are funded with after-tax money and have different tax treatment. The distinction affects contributions, withdrawals, and taxation.
| Feature | Qualified Annuity | Non-Qualified Annuity |
|---|---|---|
| Funding source | IRA, 401k, pre-tax dollars | After-tax savings |
| Contribution limits | Yes (IRA limits: $7,000-$8,000/year) | No limits |
| Tax on growth | Deferred until withdrawal | Deferred until withdrawal |
| Withdrawal taxation | 100% taxable | Only gains taxable |
| RMDs required | Yes, starting age 73 | No |
| Early withdrawal penalty | 10% IRS penalty before 59½ | 10% IRS penalty before 59½ |
Funded with retirement account money. Common sources:
Taxation: Since you never paid tax on contributions, 100% of withdrawals are taxable as ordinary income.
RMDs: Must start taking required minimum distributions at age 73, calculated based on IRS life expectancy tables.
Funded with money you already paid taxes on. No contribution limits—you can invest $500K if you want.
Taxation: Only growth is taxable. Your original premium comes back tax-free. Uses exclusion ratio to determine taxable portion of each payment.
No RMDs: Money can grow tax-deferred indefinitely. No forced withdrawals.
Qualified makes sense if:
Non-qualified makes sense if:
Qualified annuities follow IRA rules: fully taxable withdrawals, RMDs required, contribution limits. Non-qualified annuities have no limits, no RMDs, and only gains are taxable. Choose based on funding source and tax goals.