Annuity Payments and Taxes

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From an investment standpoint, setting up your retirement portfolio to include annuity payments is a pretty attractive enhancement.  For one thing, its premise is simple:  Contribute some funds now; receive payment from that contribution in installments later.  Secondly, it provides people with enough wiggle room to sell their funds to a secondary market for a host of reasons, including:

Annuity payments are also structured to help people handle their retirement funds in a matter that is budget-friendly and frugal.  What’s more, there are plenty of tools such as calculators that can help people pinpoint precisely what kind of annuity based investment strategy they want to deploy.

As flexible and option friendly as annuities can be, there is still one element pertaining to annuity payments that must be analyzed in order to fully realize how they operate:  That is, the taxation implications behind annuity payments.

Pre-Tax vs. Post-Tax

There are in essence two ways that annuities can get taxed.  The first way is on a pre-tax basis, and the second way is on a post-tax basis.

In a pre-tax basis, the person buying the annuity would be using pre-tax dollars to complete the purchase.  This means that this investment money did not have any taxes like Social Security or Medicare tax taken from them prior to the investment purchase.  As a result, all annuity payments that are made to an individual will have taxes taken out of it before that money reaches the individual.

On the other hand, in a post-tax basis, the person buying the annuity would be using post-tax dollars to complete the transaction.  This means that this investment money had taxes such as Social Security or Medicare tax taken before the investment purchase was completed.  As a result, the original principle of what was invested in a post-tax situation will return to the person on a tax-free basis.  However, any money that had grown on top of the original principle due to capital gains will still need to be taxed before it comes to the individual.

Same Old Rate

Regardless of whether a person goes with a pre-tax option or a post-tax option with their annuity payments, the fact remains that they will have to pay taxes on the investment at one time or another.  It should be noted that regardless of when the taxes are paid, they will be calculated at the normal income tax rate, and not at the capital gains rate.  This means that people that invest in annuities would not receive the kind of capital gains tax benefit that they would enjoy in other investment avenues, such as stocks or bonds.

Still, this tax rate can be viewed as a minor quibble in comparison to the other options and flexibility that can be experienced through the purchase of an annuity.  Its generally straightforward nature and its ability to help people manage their post-retirement money make it an investment strategy that is worth looking into.

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