Ask the Experts!
The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.
Question: I have a client who did a partial exchange of an annuity late last year, and now wants to exchange the rest of the money from the old contract to another new contract under Section 1035. The existing carrier is telling my client that the new exchange is a distribution from the old contract, and it will invalidate the prior 1035 exchange. Is that true?
Answer: IRS Revenue Notice 2008-13 contains the latest rules regarding partial 1035 exchanges of annuities.
To paraphrase the Notice, it says that if you try to do a partial 1035 exchange and then take money out of either the old or new contract within 12 months, the transaction will be taxed as a failed exchange.
We don’t agree with the analysis of the existing carrier, that the proposed 1035 exchange creates a problem with the prior one. From our perspective, a 1035 exchange of the remaining annuity balance is NOT a distribution of the type covered by the Notice. However, there’s nothing explicit from the IRS that supports this conclusion—only logic.
So if the existing carrier insists that its position is correct, you’re probably going to be stuck, because that’s what they’ll report to the IRS. While the client can decide to take a tax position different from that reported on an issued Form 1099, most clients won’t do it.
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