Yes, an annuity can be inherited, but what your beneficiary receives depends on the type of annuity you own, how it’s set up, and federal tax rules. Most annuities allow you to name a beneficiary who will receive remaining payments or account value after you pass away. However, the rules are complex because the IRS treats inherited annuities differently than other investments, and your beneficiary may owe taxes on what they receive.
When you buy an annuity, you’re purchasing a contract with an insurance company that promises to pay you money during your lifetime or for a set period. Under federal law, your beneficiary’s rights to that money are spelled out in the annuity contract itself. The key issue is that beneficiaries don’t just inherit cash—they inherit ongoing payment obligations, tax bills, and sometimes strict deadlines for what they must do with the money.
According to the IRS, approximately 25% of Americans with retirement accounts don’t have current beneficiary designations, which creates major problems when they pass away. Your beneficiary’s experience with an inherited annuity can range from receiving regular payments with no immediate action needed to facing a large tax bill within months. The specific consequences depend entirely on whether you chose a “death benefit” rider when you bought the annuity and whether your beneficiary is your spouse or someone else.
What You’ll Learn in This Article
📌 How different annuity types affect what your beneficiary receives after you die
💰 The specific tax rules your beneficiary must follow, including the new SECURE 2.0 Act requirements
⚠️ Common mistakes beneficiaries make that trigger massive tax bills and penalties
✅ Step-by-step examples of what happens when a spouse, child, or other person inherits an annuity
📋 The pros and cons of inheriting an annuity versus other retirement accounts
The Core Components: Understanding Annuity Inheritance
An annuity inheritance involves four main parts: the original contract owner (you), the annuity issuer (the insurance company), the beneficiary (the person you name), and the IRS rules that govern what happens next. Each of these components works together to determine exactly what money the beneficiary gets and when they get it. If any component is missing or unclear—such as not naming a beneficiary—the inheritance process becomes complicated and costly.
The original contract owner is the person who purchased the annuity and made payments into it. This person’s age at death, whether they had already started receiving payments, and the specific choices they made when buying the annuity all matter greatly. For example, if you bought an annuity at age 50 and died at age 65, the inheritance rules are different than if you bought one at age 70 and died at age 75.
The annuity issuer is the insurance company that sold you the annuity and holds your money. Companies like MetLife, Fidelity, Vanguard, and Equitable are major issuers that manage billions in annuity contracts. The insurance company has specific rules about how much your beneficiary must withdraw each year and when they must make those withdrawals. These rules come directly from the annuity contract language, and if your beneficiary breaks the rules, the insurance company can force them to take money out faster and owe more taxes.
The beneficiary is the person or entity (like a trust) you name to receive your annuity when you die. Federal law requires that you name a beneficiary when you open the annuity account, though some people name “my estate” instead, which creates serious problems. If you name a spouse as beneficiary, they have different options than if you name an adult child, a minor child, or multiple people. The beneficiary’s relationship to you determines which tax rules apply under the Internal Revenue Code.
The IRS rules are the federal tax requirements that govern inherited annuities. These rules changed significantly in 2020 under the SECURE Act and again in 2023 under SECURE 2.0. The biggest change is that most non-spouse beneficiaries must now withdraw and pay taxes on the entire inherited annuity within 10 years of the owner’s death. Before these laws passed, beneficiaries could stretch payments over their entire lifetime, which saved them enormous amounts in taxes.
How Different Annuity Types Affect Inheritance
Not all annuities are created equal when it comes to inheritance. An immediate annuity, sometimes called a single premium immediate annuity (SPIA), is purchased with one large payment, and you begin receiving payments right away—often within one to three months. With an immediate annuity, if you die before you receive back all the money you paid in, your beneficiary typically receives the remaining balance. However, if you choose a “life-only” payout option with no death benefit, your beneficiary receives nothing—the insurance company keeps the remaining money.
A deferred annuity is purchased today but doesn’t begin paying out until years later, during a phase called the “accumulation period.” During this time, your money grows tax-free inside the annuity contract. If you die during the accumulation period, your beneficiary typically receives the full account value (or more if you purchased a death benefit rider). If you die after payments have already started, the inheritance rules depend on what payout option you selected and whether a death benefit rider is attached.
A fixed annuity promises a guaranteed interest rate set by the insurance company, similar to a savings account. Your payments are stable and predictable, which makes inheritance simpler because the annuity company knows exactly how much to pay your beneficiary. A variable annuity lets you choose investment options (like stock and bond funds), and your payments go up and down based on investment performance. Variable annuities are riskier but can grow faster, which means your beneficiary might inherit a larger amount if markets perform well.
An indexed annuity ties its growth to a stock market index like the S&P 500 but guarantees a minimum return. These annuities are complex, and inheritance rules vary widely based on the specific contract language. The key difference for inheritance is that indexed annuities often have caps on how much growth your beneficiary can receive, even if the market performs extremely well.
| Annuity Type | What Happens at Your Death |
|---|---|
| Immediate annuity (life-only) | Beneficiary receives nothing; insurance company keeps remaining balance |
| Immediate annuity (with death benefit) | Beneficiary receives remaining balance or guaranteed amount |
| Deferred fixed annuity | Beneficiary receives account value, plus any guaranteed death benefit |
| Deferred variable annuity | Beneficiary receives account value based on investment performance, plus rider benefits if purchased |
| Indexed annuity | Beneficiary receives account value with participation rate limits if specified in contract |
Spousal Beneficiaries Have Special Advantages
If your spouse is named as your beneficiary, they have options that no other beneficiary has under federal tax law. The IRS allows surviving spouses to treat an inherited annuity as their own, which means they can delay required withdrawals until they reach their own life expectancy. Your spouse can also postpone any withdrawals until you would have started taking them if you were alive, which gives them more time for the money to grow.
When a spouse treats the inherited annuity as their own, they can name new beneficiaries, change the payout option, and exercise all the same rights as the original contract owner. This option is extremely valuable because it avoids the 10-year withdrawal rule that applies to most other beneficiaries. Your spouse’s tax bill is also spread over a longer time period, which means lower annual taxes and less financial pressure after you die.
A spouse can also choose to be the “beneficiary of the annuity” without treating it as their own, which means they must follow the deceased owner’s payout choice. This approach makes sense if the original owner already had a good payout option in place. The spouse still gets favorable tax treatment and access to the money, but they don’t have to make new decisions about how the annuity operates.
However, spousal beneficiaries face challenges too. If the original owner died before the “required beginning date” (the age when they were supposed to start taking withdrawals, typically age 73), the spouse must start withdrawals by December 31 of the year following the owner’s death. If the original owner had already started withdrawals, the spouse must continue those withdrawals or take at least as much as the owner was taking each year.
Non-Spouse Beneficiaries Face the 10-Year Rule
The most significant change for non-spouse beneficiaries came from the SECURE Act of 2019, which eliminated the “stretch” strategy where beneficiaries could spread withdrawals over their entire lifetime. Now, most non-spouse beneficiaries—including adult children, grandchildren, siblings, and friends—must withdraw the entire inherited annuity balance within 10 years of the original owner’s death. This rule applies regardless of the beneficiary’s age or whether they need the money.
The 10-year rule created a massive tax problem for inherited annuities. Unlike retirement accounts where the beneficiary can take annual withdrawals based on their own life expectancy, annuity beneficiaries can take withdrawals whenever they want during the 10-year period—there are no annual requirements. This means a beneficiary could take nothing for 9 years and then be forced to withdraw everything on year 10, triggering a huge tax bill all at once. The IRS added a requirement in 2022 that beneficiaries must have withdrawn 100% of the balance by December 31 of year 10.
Some beneficiaries are exempt from the 10-year rule entirely. Disabled or chronically ill beneficiaries can still use the old “stretch” method and spread withdrawals over their lifetime. Beneficiaries who are less than 10 years younger than the original owner (like a spouse close in age or an adult sibling) also have different options. Additionally, minor children have special protections until they reach age 18, after which the 10-year clock starts.
The consequences of missing the 10-year deadline are severe. If you don’t withdraw all your inherited annuity money by the deadline, the IRS treats the entire remaining balance as immediately taxable. You owe income tax on that money plus a 25% penalty for missing the deadline (though the penalty was temporarily reduced to 10% in 2023 for certain situations). This can create a tax bill that exceeds the total amount of money you inherited.
What Actually Happens: Three Common Scenarios
Scenario 1: A Spouse Inherits a $200,000 Deferred Annuity During the Accumulation Phase
Maria’s husband, Robert, purchased a deferred fixed annuity 12 years ago and paid $150,000 into it. At the time of his death, the account value had grown to $200,000 due to the guaranteed interest rate. The contract named Maria as the sole beneficiary. Maria has three basic options: she can treat the annuity as her own, continue it as Robert’s beneficiary, or take a lump-sum distribution.
If Maria treats it as her own annuity, she can name new beneficiaries, change the payout option, and delay withdrawals until she reaches her required beginning date (age 73). She will not owe any taxes until she starts taking withdrawals. If she chooses to continue it as Robert’s inherited annuity, she must start withdrawals by December 31 of the year following Robert’s death, and her annual withdrawal amount is based on Robert’s age at death. If Maria chooses a lump sum, she will owe income taxes on the $50,000 gain ($200,000 minus the $150,000 Robert invested), but she avoids all future tax complications.
| Maria’s Choice | Tax Consequence |
|---|---|
| Treat as her own annuity | No taxes until she withdraws; can delay until age 73 |
| Continue as Robert’s annuity | Must start withdrawals by year-end following death; spreads taxes over years |
| Take lump-sum payment | Owes income tax only on the $50,000 gain in year of distribution |
Scenario 2: An Adult Child Inherits a $150,000 Variable Annuity
James and his sister, Linda, are named equal beneficiaries on their mother’s variable annuity, which is worth $150,000 at her death ($75,000 each). James is 48 years old; his mother was 82. James has no special exemptions because he is not disabled and not significantly younger than his mother. Under the SECURE Act rules, James must withdraw his entire $75,000 share by December 31, 10 years after his mother’s death.
James could withdraw $7,500 per year ($75,000 divided by 10 years), spreading his tax liability evenly. If the variable annuity account loses money during the 10-year period due to poor investment performance, James must still withdraw the entire remaining balance by year 10, even if it’s less than $75,000. Alternatively, James could withdraw small amounts in years 1-9 and then take the rest in year 10, but this strategy risks withdrawing everything during a year when he’s in a high tax bracket due to other income.
| James’s Strategy | Annual Tax Impact |
|---|---|
| Withdraw $7,500 per year for 10 years | Spread taxes evenly; predictable annual tax bill |
| Withdraw minimally for 9 years, then lump sum in year 10 | Risk concentrated in year 10; high tax bill if he has other income |
| Withdraw nothing for 5 years, then $15,000/year | Lower taxes in early years; higher taxes later |
Scenario 3: A Minor Child Inherits Through a Trust
John’s will named a trust for his 8-year-old daughter, Emma, as the beneficiary of his $300,000 immediate annuity. The annuity was paying John $20,000 per year for life. When John dies, the annuity company continues paying $20,000 per year to the trust. The trust document states that the trustee must hold the money for Emma until she turns 21. Since Emma is not the direct beneficiary (the trust is), the 10-year rule applies to the trust, not to Emma personally.
The trustee can withdraw all the money immediately if needed for Emma’s care, or the trustee can leave the money in the annuity to continue receiving the $20,000 annual payments. If the trustee takes the 10-year approach and withdraws roughly $30,000 per year (the original $20,000 annual payment plus additional withdrawals), the trust will have distributed everything by year 10. The trust itself pays income tax on the withdrawals at trust tax rates, which are extremely high (the top rate kicks in at just $12,950 in taxable income in 2024).
| Trustee’s Approach | Tax Result |
|---|---|
| Withdraw only the $20,000 annual payments | Stays within annuity framework; taxes owed by trust each year |
| Withdraw additional amounts to clear annuity by year 10 | Accelerates taxes; trust pays top rates on distributions |
| Distribute all funds to Emma immediately | Trust avoids paying taxes; Emma pays income tax on inherited money |
When You Die Before Starting Withdrawals: The RMD Conundrum
If you purchased an annuity but died before you were supposed to start taking required minimum distributions (RMDs), your beneficiary faces a specific set of rules that changed under SECURE 2.0. Previously, non-spouse beneficiaries could spread withdrawals over their entire life expectancy. Now they must withdraw everything within 10 years unless they qualify for an exemption.
Your beneficiary must determine if you had already reached your “required beginning date,” which is April 1 of the year after you turn 73 (this age was 72 before 2023). If you died after that date but before taking that year’s withdrawal, your beneficiary must take at least your required minimum distribution amount in the year of your death. If you died before reaching age 73, no such requirement applies, and your beneficiary can choose when and how much to withdraw during the 10-year period.
The problem emerges because annuity companies sometimes don’t clearly communicate these rules. Your beneficiary might not realize they have a 10-year deadline and could accidentally violate it by taking no withdrawals for the first several years and then facing an impossible deadline. The annuity issuer should send notices explaining the withdrawal rules, but many companies send confusing documents that beneficiaries don’t fully understand.
When You Die After Starting Withdrawals: Continuing or Cashing Out
If you already started receiving annuity payments before you died, the inheritance rules depend heavily on what payout option you chose. If you selected a “lifetime” payout with a death benefit (like a 10-year certain option), your beneficiary continues receiving your payments, or if you haven’t received payments for 10 years yet, they receive the remaining guaranteed payments. If you selected a “straight life” option with no guarantees, your beneficiary typically receives nothing.
Your beneficiary’s choices after you start withdrawals are more limited than if you died during the accumulation phase. Most annuity contracts require the beneficiary to either continue receiving the same payments you were receiving or take a lump-sum distribution of any remaining balance. They cannot change the payout option, slow down withdrawals, or modify the annuity in most cases. This inflexibility is a major reason why financial advisors recommend choosing the right payout option when you first purchase the annuity.
If your annuity offers a death benefit rider (called various names like “Enhanced Death Benefit” or “Return of Premium”), your beneficiary might receive more than the remaining balance. For example, if the rider guarantees a return of all premiums paid, your beneficiary receives whichever is greater: the current account value or the total amount you invested. This feature adds to the inheritance value but also increases the annuity’s annual cost.
How State Laws Affect Annuity Inheritance
State insurance regulations determine some aspects of annuity inheritance, particularly regarding how the annuity company must treat beneficiaries and what options they must offer. New York insurance law, for example, requires annuity companies to clearly disclose all death benefit options and what beneficiaries will receive. California law includes specific rules about how deferred annuities must be issued and what rights beneficiaries retain.
Most states follow the Uniform Probate Code, which provides default rules for annuities when the contract doesn’t clearly specify what happens upon death. If your annuity doesn’t name a beneficiary, state probate law determines who receives the money—usually in this order: your spouse, your children, your parents, then your siblings. This process takes months or years through probate court and costs money in attorney fees and court costs.
Some states have special creditor protection for annuities. Florida law and Texas law treat annuities as protected assets that creditors cannot touch, which means your beneficiary keeps the full amount even if you had significant debts when you died. Other states allow creditors to claim a portion of the inherited annuity to satisfy outstanding debts owed by the deceased. Your beneficiary should check their state’s specific rules about creditor protection.
Community property states like California, Texas, and Arizona have special rules for annuities purchased during marriage. In these states, both spouses typically own half the annuity, and the spouse’s half passes to the beneficiary independent of probate. This can actually speed up inheritance in some situations because the surviving spouse already owns half the annuity outright.
Tax Consequences: What Your Beneficiary Owes
The tax bill your beneficiary faces depends on how much of the inherited annuity is “gain” (earnings) versus the original “basis” (amounts you invested). The IRS considers only the gain taxable as ordinary income in the year the beneficiary withdraws it. For example, if you invested $100,000 and the annuity is worth $150,000 at your death, only the $50,000 gain is taxable income to your beneficiary.
This matters significantly because the tax rate on annuity withdrawals is higher than the rate on long-term capital gains. Your beneficiary pays ordinary income tax (10% to 37% federal, depending on their total income and filing status) rather than preferential capital gains rates (0%, 15%, or 20%). A beneficiary who is already in a high tax bracket could find themselves paying 40-50% of the inheritance value in combined federal and state income taxes.
Your beneficiary should not make the mistake of taking the entire annuity as a lump-sum distribution immediately after you die. The entire amount becomes taxable in that one year, which could push them into the highest tax bracket and trigger additional tax consequences like higher Medicare premiums or loss of certain tax credits. Instead, spreading withdrawals over multiple years keeps their annual taxable income lower and their overall tax rate reasonable.
The SECURE 2.0 Act introduced a “still-working” exception that allows some beneficiaries to delay the 10-year deadline if they continue working at the company where the original account owner worked. This applies mainly to 401(k) plans but can affect inherited IRAs that are annuitized. Most inherited annuities don’t qualify for this exception because they are not workplace retirement plans.
Mistakes That Create Massive Tax Problems
Mistake 1: Not Understanding the 10-Year Rule
Many beneficiaries believe they can receive inherited annuity payments for their entire lifetime, not realizing the law changed in 2020. They take small withdrawals in years 1-5, assuming they have plenty of time, and then face a deadline to withdraw thousands of dollars in year 10. The annuity company should provide a beneficiary notice explaining the rules, but some companies send confusing letters that beneficiaries misinterpret. Your beneficiary should ask the annuity company directly: “What year must I completely withdraw this inherited annuity?” and get a written answer.
Mistake 2: Taking a Lump Sum Without Understanding the Tax Impact
Your beneficiary might feel relieved to get all the money at once and eliminate the annuity as a complication. However, receiving the entire amount in a single year creates an enormous tax bill that often exceeds what spreading withdrawals would cost. A beneficiary who inherits $100,000 and takes it all in one year could owe $30,000-$40,000 in federal and state income tax, leaving only $60,000-$70,000 after taxes. If they had spread the withdrawals over 5 years, they might have paid only $20,000 in total taxes.
Mistake 3: Allowing the Annuity Company to Process the Inheritance Incorrectly
Annuity companies receive thousands of death certificates and beneficiary claims every year, and some make mistakes. An error in how the company processes your death could delay your beneficiary’s access to the money or trigger unnecessary taxes. Your beneficiary should request written confirmation of the exact steps the annuity company will take, including the deadline for withdrawals, the tax treatment of each distribution, and the options available.
Mistake 4: Not Considering a Spousal Rollover if Available
If your spouse is the beneficiary and fails to actively treat the annuity as their own, they lose valuable tax deferral years. The spouse should work with the annuity company to formally elect to treat the annuity as their own if that option is available in your contract. Without this election, the spouse must use the deceased owner’s age for determining withdrawal requirements, which forces earlier withdrawals and higher taxes.
Mistake 5: Naming Your Estate as Beneficiary Instead of Specific People
If you don’t name an individual beneficiary and let the annuity go to your “estate,” the money is subject to probate and takes months or years to transfer. Additionally, creditors of your estate can claim a portion of the annuity value. Naming specific beneficiaries ensures the money transfers directly to them outside of probate, often within weeks.
Mistake 6: Failing to Review Beneficiary Designations After Life Changes
Many people name a beneficiary when they open the annuity but never update it if their family situation changes. You might have named an ex-spouse as beneficiary, divorced, and never changed the paperwork. Your ex-spouse would still receive the annuity upon your death in many states. You should review your annuity beneficiary designation every 3-5 years or after any major life change.
Mistake 7: Taking Withdrawals in the Wrong Order
If you own multiple annuities, your beneficiary should understand whether to withdraw from one annuity completely before moving to the next or to distribute withdrawals proportionally. The choice affects tax planning and the timing of the 10-year deadline. A beneficiary with multiple inherited annuities should consult a tax professional about the optimal withdrawal order.
Pros and Cons of Inheriting an Annuity
| Pros of Inherited Annuity | Cons of Inherited Annuity |
|---|---|
| Money transfers outside probate; beneficiary receives funds quickly without court involvement | 10-year withdrawal deadline forces beneficiary to take withdrawals even if they don’t need the money |
| If spouse is beneficiary, they can defer taxes longer by treating annuity as their own | Tax bill can be enormous if beneficiary doesn’t plan withdrawals carefully |
| Death benefits can provide more than the account value if promised in contract | Annuity company controls timing and options; beneficiary has limited flexibility |
| Inherited annuity payments are typically not subject to creditor claims (varies by state) | If original owner took “life-only” option, beneficiary might receive nothing |
| Surviving spouse can continue lifetime income stream with predictable payments | Beneficiary cannot change investment options or payout structure in most cases |
| Nonspouse beneficiaries exempt from age-based distribution rules (compared to IRAs) | Ordinary income tax rates apply (up to 37%) rather than lower capital gains rates |
The Impact of SECURE 2.0 Changes (2023 Forward)
The SECURE 2.0 Act, which became law in December 2022, made the 10-year rule stricter by requiring that beneficiaries withdraw a specific amount each year, not just by year 10. Starting in 2024, beneficiaries must withdraw at least 10% of the account balance in year 1, 20% in year 2, and so on, reaching 100% by year 10. This schedule prevents beneficiaries from procrastinating and then facing a massive withdrawal at the deadline.
The new rules also clarified that the 10-year deadline applies to the December 31 of the year that includes the 10-year anniversary of the account owner’s death. For example, if the original owner died on June 15, 2024, the beneficiary must have withdrawn everything by December 31, 2034. The annuity company must provide notices to beneficiaries explaining this timeline and the required annual withdrawal percentages.
One important carve-out: beneficiaries born less than 10 years after the account owner (such as a spouse who is close in age, or a young sibling) can still spread withdrawals over their own life expectancy if certain conditions are met. Disabled or chronically ill beneficiaries retain more flexibility as well. However, these exceptions apply to relatively few inherited annuities.
Do’s and Don’ts for Beneficiaries
Do’s:
- Do contact the annuity company within 30 days of receiving the death certificate to ensure they have accurate records and understand the inheritance process.
- Do ask for the annuity contract document and review it carefully to see what payout options were available to the original owner and whether any death benefits apply.
- Do calculate the tax impact before choosing between spreading withdrawals over 10 years versus taking a lump sum; a tax professional can model both scenarios.
- Do update your own beneficiary designation immediately after inheriting an annuity to ensure the money goes to your chosen heirs.
- Do check your state’s creditor protection laws to understand whether the inherited annuity is safe from creditors if you have debts or face a lawsuit.
- Do request written confirmation from the annuity company of the exact deadline (date, not just “by year 10”) and the withdrawal rules that apply to your situation.
Don’ts:
- Don’t assume you have your whole lifetime to withdraw inherited annuity money; the 10-year deadline is firm for most beneficiaries.
- Don’t take a lump sum immediately without comparing the one-year tax bill to the cost of spreading withdrawals over multiple years.
- Don’t ignore tax filing requirements; you must report inherited annuity withdrawals on your tax return even if the annuity company doesn’t send you a 1099 form.
- Don’t mix inherited annuities with inherited IRAs in terms of the withdrawal deadline; they are subject to different rules.
- Don’t forget that the annuity company controls the process; some companies are slower than others in processing death claims and making first payments.
- Don’t assume the original owner’s beneficiary designation is current; verify who is actually named on the contract because outdated designations sometimes show different people than you expect.
Key Entities That Shape Annuity Inheritance
The IRS enforces the 10-year withdrawal rules and determines the tax treatment of inherited annuities. Federal law, specifically Section 401(a)(9) of the Internal Revenue Code, establishes the framework for beneficiary distributions.
Your annuity issuer (MetLife, Fidelity, Vanguard, Equitable, Lincoln National, or another insurance company) controls the mechanics of transferring the annuity to your beneficiary and enforces the contract terms. The company’s customer service team is the first contact for beneficiaries with questions.
The beneficiary bears all responsibility for understanding the rules and meeting deadlines. Your beneficiary should not rely entirely on the annuity company to guide them because some companies’ notices are incomplete or confusing.
Your financial advisor or tax professional can help your beneficiary navigate the withdrawal strategy that minimizes taxes. A beneficiary who doesn’t have professional guidance risks making costly mistakes.
A probate attorney becomes relevant only if your annuity didn’t name a beneficiary or if significant legal disputes arise over who should inherit the money.
Your state insurance commissioner oversees annuity companies within that state and enforces state-level consumer protections. If an annuity company makes a mistake or refuses to honor the contract terms, beneficiaries can file complaints with the commissioner’s office.
Real-World Examples of What Beneficiaries Received
Example 1: The Spouse Who Saved Thousands in Taxes
David purchased a $200,000 deferred fixed annuity at age 60 and named his wife, Susan, as the sole beneficiary. The contract promised a guaranteed 3% annual return. David died at age 72, when the account had grown to $310,000. Susan immediately called the annuity company and asked about her options. Instead of taking the lump sum, she elected to treat the annuity as her own.
Susan didn’t take any withdrawals for three years because she had other income sources and didn’t need the money. When she did start taking withdrawals at age 75, she withdrew only $10,000 per year for the next 10 years. Over that period, the remaining balance grew to approximately $380,000 due to the guaranteed interest rate. Susan’s total tax bill on the $70,000 in withdrawals was roughly $17,500 (at her 25% tax bracket). If she had taken a lump sum of $310,000 in the first year, her tax bill would have been approximately $77,500.
Example 2: The Adult Child Who Faced an Unexpected Tax Bill
Rachel inherited her mother’s $150,000 variable annuity when she was age 50. Her mother had purchased the annuity 20 years earlier and invested $80,000, meaning $70,000 was gain. Rachel initially didn’t understand the 10-year rule and took only $5,000 in year 1 and nothing in years 2-3. By year 4, she realized she was behind on her withdrawal schedule.
Rachel worked with a tax professional who calculated that she could withdraw $20,000 per year for years 4-10 and stay on track to empty the account by the deadline. However, Rachel had already received $5,000, so the total was slightly higher. Because Rachel’s withdrawals now totaled $140,000 over the 10-year period, and all of it represented gain (except for a small portion of her $5,000 initial withdrawal that represented basis), she paid approximately $42,000 in federal income tax plus state tax. If Rachel had planned better and spread the withdrawals evenly from year 1 onward, her tax bill would have been only slightly lower because her total withdrawal was the same, but she would have avoided the stress of realizing her mistake midway.
Example 3: The Minor Child Whose Inheritance Was Held in Trust
Henry’s will named a revocable living trust for his 9-year-old daughter, Emma, as the beneficiary of his $250,000 immediate annuity. The annuity was paying $18,000 per year for Henry’s life. When Henry died, the annuity company continued paying $18,000 per year to the trust. Henry’s cousin served as trustee.
The trustee realized that the 10-year rule applied to the trust and not to Emma personally. The trustee created a withdrawal schedule that took the $18,000 annual payment plus an additional $27,000 per year, totaling $45,000 per year for 10 years. This would empty the annuity by year 10 and distribute funds to Emma according to the trust document, which stated that Emma would receive all distributions at age 21.
The trust paid income tax on the $45,000 annual withdrawals at federal tax rates of 37% (the top trust rate in 2024), resulting in approximately $16,650 in federal tax per year, or roughly $166,500 over 10 years. The trustee considered instead distributing the $45,000 directly to Emma each year, which would have allowed Emma to pay tax at her individual tax rates (roughly 10-12%), resulting in far lower taxes overall. However, the trust document didn’t specifically allow this strategy, so the trustee would have needed court approval to implement it.
Questions Beneficiaries Commonly Ask
Can I refuse to inherit an annuity?
Yes. You can disclaim (refuse) an inherited annuity within nine months of the owner’s death. However, disclaiming doesn’t eliminate the annuity—it passes to the next beneficiary named in the contract or to the owner’s estate.
What if the annuity owner died owing taxes?
No. The IRS cannot claim your inherited annuity to pay the deceased’s back taxes. However, the owner’s estate is responsible for tax debt, which might reduce what other heirs receive.
Does my inherited annuity count toward my income for Medicare premiums?
Yes. Inherited annuity withdrawals count as taxable income, which can increase your Medicare premiums through Income-Related Monthly Adjustment Amounts (IRMAA).
Can I transfer my inherited annuity to another insurance company?
No. The IRS generally doesn’t allow beneficiaries to transfer inherited annuities to different companies. You must take distributions from the original contract.
What if I’m named as beneficiary but also have creditors?
Maybe. Some states protect inherited annuities from creditor claims, but others don’t. Check your state insurance department’s website for specific rules.
Do I have to take withdrawals every year, or can I wait?
Not quite. Before 2024, you had flexibility. Under SECURE 2.0, you must withdraw at least the percentage required for each year (10% in year 1, 20% in year 2, etc.).
What happens if I miss the 10-year deadline?
High penalties. Any remaining balance becomes immediately taxable. You owe income tax plus a 25% penalty on the missed amount (temporarily 10% for 2024-2025).
If I inherit an annuity with my sibling, can I withdraw separately?
Yes. Each beneficiary is treated separately. You must withdraw your share by the deadline, but your sibling’s deadline is independent.
Is there any way to extend the 10-year deadline?
Sometimes. Disabled or chronically ill beneficiaries, and those born within 10 years of the owner, have exceptions. A tax professional can evaluate if you qualify.
What’s the difference between “separate account” and “commingled” inheritance?
It’s about administration. Separate accounts track each beneficiary’s portion independently, while commingled accounts pool the money. Separate accounts are clearer for tracking the 10-year deadline.
Related reading
- Who Really Inherits a 401(k) After Death? – Avoid This Mistake + FAQs
- Are Annuities Really Taxable When Inherited? Avoid this Mistake + FAQs
- Do Annuities Have Value After Death? (w/Examples) + FAQs
- Can Inherited Money Be Put Into an IRA? (w/Examples) + FAQs
- Can You Inherit an Already Inherited IRA? (w/Examples) + FAQs
- Can a Beneficiary 1035 Exchange an Inherited Annuity? (w/Examples) + FAQs
- Can You Buy an Annuity With Cash? (w/Examples) + FAQs