It is important to understand how an annuity beneficiary works. If the beneficiary of an annuity is your spouse, they can take over ownership of the annuity and receive payments under the annuity schedule. The annuity would be tax-deferred, and your spouse would only owe taxes on the distributions when they take them, says Forbes’ recent article, “What Is An Annuity Beneficiary?
However, the rules differ if your beneficiary is someone other than your spouse. A non-spouse has three options when inheriting an annuity:
- A lump sum payment. The beneficiary gets the annuity’s remaining value as one upfront payment and must pay income taxes immediately on the lump sum.
- Nonqualified stretch, where the annuity payouts—and the required income taxes—are stretched throughout the beneficiary’s lifetime; or
- Beneficiaries can withdraw smaller amounts from the annuity during a five-year period after the annuity holder’s death or withdraw the entire amount in the fifth year.
Only the annuity owner can name a beneficiary. However, they can change beneficiaries at any time, provided the annuity contract doesn’t require you to name an irrevocable beneficiary. You can also choose multiple beneficiaries, designating a percentage of the annuity for each person. Annuity contracts also frequently let you designate a contingent beneficiary—a person who will get the annuity payments if the primary beneficiary dies before the annuity owner does.
The choice of beneficiary also significantly impacts how taxes are handled, so taking the time to document your wishes can save your loved ones from problems in the future.
While you aren’t required to name a beneficiary when you purchase an annuity, it’s highly recommended.
Suppose you don’t have a designated beneficiary in the annuity contract. In that case, the annuity must go through probate—the legal process for recognizing a will and distributing the assets within an estate.
These proceedings can be expensive and time-consuming. It could be several months before everything is resolved and the heirs receive their inheritance. An estate planning attorney will help you understand how an annuity beneficiary works and how to ensure your planning addresses your needs. If you would like to learn more about the role of the beneficiary, please visit our previous posts.
Reference: Forbes (Jan. 19, 2023) “What Is An Annuity Beneficiary?”
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