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Qualified vs. Non-Qualified Annuity

As you plan for retirement, you need to consider your personal and financial goals. Choosing a retirement plan that can support your lifestyle and financial situation is an essential part of ensuring you are set later on in life. Each plan has different tax rules and other requirements, which is why you need to take the time to consider all of these factors. Learn the difference between a qualified and non-qualified annuity to determine which one suits your retirement goals.
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What Is a Qualified Annuity?

A qualified annuity is a retirement savings plan with an insurance company. Unlike a non-qualified annuity, a qualified annuity is funded with before-tax dollars. When you make a contribution to a qualified annuity, your money isn’t taxed right away. Instead, you need to pay taxes on it once you withdraw money during retirement. In most cases, you use a traditional IRA or a company’s retirement plan to invest your annuity.

What Is a Non-Qualified Annuity?

A non-qualified annuity is a retirement savings plan that uses after-tax dollars for funding. This means that all of your contributions are taxed immediately. Non-qualified annuities have no minimum contribution rate, making it similar to a Roth IRA. However, the main difference is that with a non-qualified annuity, any earnings that you withdraw from it are taxable at your regular tax rate.

Qualified vs. Non-Qualified Annuity

The main difference between qualified and non-qualified annuities is how they are taxed. If you choose a non-qualified annuity, your earnings on your initial investment are subject to taxes. Since the principal amount you used to buy your annuity is considered money after taxes, you are not required to pay additional taxes on this money. With a qualified annuity, you must follow the tax rules of the plan you purchased it through. For example, when investing it in an IRA or 401(k) retirement fund, the IRS will tax it like normal income when you choose to withdraw funds from these accounts.

With qualified and non-qualified annuities, you must be 59.5 years old before withdrawing any funds. In the case you choose to withdraw funds anyway, the IRA gives you a tax penalty of 10% on your earnings. Of course, these rules may not apply in the event of a death or if you were to become disabled.

With a qualified annuity, you are required by federal law to start taking distributions when you turn 70.5 years old. Non-qualified annuities have no federal requirements about when you must start withdrawing distributions, however, there may be state laws that do have requirements.

What Is the Best Annuity Type?

The type of annuity you choose should be based on your financial needs, tax situation, and retirement goals. Each kind of annuity can be beneficial for people in different financial situations.

If you think you will be in a higher tax bracket upon retirement, you may prefer a non-qualified annuity so you can save on taxes. This kind of annuity is also better if you want to contribute continuously since there is no limit to your contributions each year. You may also prefer a non-qualified annuity since there are no required distributions at the age of 70.5, unlike qualified annuities.

If you plan to take distributions by the age of 70.5, a qualified annuity may be better for you. If you anticipate being a part of a low tax bracket upon retirement, consider qualified annuities to pay lower taxes on your earnings and contributions later on. Along with guaranteed income, a qualified annuity can also provide your spouse or beneficiary with benefits if you were to pass away.

Tips for Retirement Planning

There are many things to consider when planning for your retirement. Use these tips to plan for a more relaxed and financially stable retirement:

  • Meet with a finical advisor. Though it’s important to educate yourself on topics related to retirement, a financial advisor can guide you through the entire process. It’s their job to answer any questions you have and make retirement planning easier. They can also help you decide which kind of annuity is best for your situation.
  • Consider your entire portfolio. When choosing an annuity, look at how it fits into your overall portfolio. Think of ways it may impact your other accounts and funds. Also, consider what you want for your family or other beneficiaries. It’s important to assess whether you can make enough contributions to an annuity.
  • Ask about other annuity features. Some insurers may offer additional features to their annuity plans, such as income for life or a guaranteed death benefit. These features make it possible to continue to support your loved ones even after you’re gone.
  • Read through contracts carefully before signing. Certain investments have higher risks than others, and it’s important that you are aware of this for your plan. For example, with a variable annuity, your funds are subject to investment risk and fluctuations in the market. This could lead to the loss of principal. By understanding these terms and conditions, you can prepare for these kinds of circumstances.
  • Determine where you plan to be financially upon retirement. Although life is full of unforeseen circumstances, it’s still important to predict what your life will look like when you want to retire. Think about what tax bracket you’re likely to be in, where you want to live, what kind of savings you’ll have, and how much income you will need to support the lifestyle you want.
  • Communicate your plan with your family. Communicate with your immediate family while retirement planning. They may be able to offer you support and guidance as you make important retirement decisions. Many of your decisions may impact them directly, so it is important they are aware of this as well.

Find a retirement plan that allows you to live comfortably in your later years. With an annuity, you can continue to receive income for the remainder of your life and enjoy relaxing and spending quality time with loved ones. Do the planning now so that you can feel financially secure later on when you are ready to retire.

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