A 30 year old guy makes a $100,000 single payment to a fixed deferred annuity (non qualified) with a 5 year surrender charge. In the 6th year he decides he wants the money to buy a boat! Let's say the value is worth $150,000. There is a 10% penalty for withdrawal before age 59.5, right? Is it on the entire $150,000 or only on the $50K gain? Does he pay $15K or $5K in penalty?
A 30 year old guy makes a $100,000 single payment to a fixed deferred annuity (non qualified) with a 5 year surrender charge. In the 6th year he decides he wants the money to buy a boat! Let's say the value is worth $150,000. There is a 10% penalty for withdrawal before age 59.5, right? Is it on the entire $150,000 or only on the $50K gain? Does he pay $15K or $5K in penalty?
Thanks,
Al
All retirement accounts are the same in that regard. You pay the 10% penalty on the taxable distribution which is the whole amount.
All retirement accounts are the same in that regard. You pay the 10% penalty on the taxable distribution which is the whole amount.
Provided the contribution was done post-tax, wouldn't the first $100,000 be considered basis? Wouldn't only the gain be considered taxable?
Also, aren't their internal rules about FIFO LILO and so on?
There used to be a section of the IRS code (it probably hasn't changed) that allows for what could be referred to as "equal and substantial payments". That law allows for withdrawals from retirement vehicles without penalty so long as the withdrawals continue for 5 years or to age 59.5, whichever is longer.
Most distributions (both periodic and nonperiodic) from qualified retirement plans and nonqualified annuity contracts made to you before you reach age 59½ are subject to an additional tax of 10%. This tax applies to the part of the distribution that you must include in gross income. It does not apply to any part of a distribution that is tax free, such as amounts that represent a return of your cost or that were rolled over to another retirement plan. It also does not apply to corrective distributions of excess deferrals, excess contributions, or excess aggregate contributions (discussed earlier under Taxation of Nonperiodic Payments).
So from this would you say that the original $100K he put in is not taxed only the earnings on that money?
If you really need the money, you could just cash in your annuities altogether or begin pulling money from them a little at a time. Annuities generally have "surrender charges," or early withdrawal penalties, that typically run between 6 percent and 10 percent (although in some cases they can run as high as 20 percent). But those penalties typically disappear in 6 to 10 years, maybe 15 or 20 on the outside. You're probably beyond the surrender charge phase, so that's not an issue.
What is an issue, though, is your age. If you withdraw money from an annuity prior to age 59 1/2, you are hit with a 10 percent tax penalty on top of the regular income taxes that are due. Which means if you and your wife are in the 25 percent tax bracket, you would end up paying an effective tax rate of 35 percent on your annuity gains if you withdraw the money before you turn 59 1/2.
You pay no tax on your original investment, which isn't surprising since you already paid tax on that money before investing it in the annuity. That said, however, the IRS generally considers all withdrawals taxable until the annuity's value drops to the value of your original investment. At that point, the withdrawals are considered a nontaxable return of your own money.
There is a way around the 10 percent tax penalty, though: annuitize, that is, convert the value of your annuity into regular payments based, say, on your life expectancy. (The 10 percent tax penalty is also waived on payments you take because you've become totally and permanently disabled and on payments made after the death of the annuity owner.)
You'll still owe income tax on the payments, but annuitizing gives you a little tax break there as well in the form of what's known as the "exclusion ratio." Essentially, the IRS considers a part of each annuity payment a return of your original investment, in effect, postponing the tax on your gains.
So maybe it is GAINS and not original principal that is subject to the 10% penalty?
Al
You would pay taxes and penalty on the $50,000 gain.
Not a fun situation for anyone.
If this was qualified money (i.e. monies held in a 401(k)) for instance, the entire distribution is subject to tax and penalty for those under 59 1/2
THE FINE PRINT: YOU SHOULD CONSULT A QUALIFIED TAX PROFESSIONAL BEFORE MAKING ANY RECOMMENDATIONS. ASSUME ALL ADVICE GIVEN IS WORTH WHAT YOU PAID FOR IT
So maybe it is GAINS and not original principal that is subject to the 10% penalty?
Al
It's on the gain with a non-qual. The whole enchilada if qualified. The government is trying to get back money that it lost due to taking a tax deduction for putting qualified money in so the entire amount gets hit with qualified money. Non-qual is invest ed after tax with no deduction when it is invested into a non-qual annuitity so there is no need to have a penalty on the original invested amount because the investor did not avoid any taxes on the way in. Again, not so with qual money.
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Annuity 10% penalty?
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