Advanced Underwriting Consultants

Question of the Day – May 10

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 am working with a client whose mother passed away recently, naming the client the sole beneficiary of a nonqualified annuity (NQDA).  What are my client’s options for stretching the tax result from the NQDA?

Answer: Under Revenue Code Section 72(s)(2), an individual non-spousal beneficiary must take distributions from a nonqualified annuity

  • At least as rapidly as under the method of distribution in effect at the owner’s death, or
  • Completely within five years of the owner’s death.

 

If the named beneficiary annuitizes the annuity over his lifetime within a year of the owner’s death, he’ll be considered to be in compliance with the distribution rules.  This annuitization has some income tax appeal, as it allows the beneficiary to stretch the income tax result over his lifetime.  Further, if annuitized, each annuity payment will be partly a recovery of basis, and partly a taxable distribution.

In PLR 200313016, the IRS approved of three non-annuitization methods for a non-spouse beneficiary to satisfy the requirements of Section 72(s)(2):

  • Amortization calculation method
  • Annuitization calculation method
  • RMD calculation method

The RMD method approved by the PLR produces the lowest initial payout to the beneficiary.  The non-spouse beneficiary, within a year of the taxpayer’s death, must begin taking distributions using the factor from the Single Life Table and the account balance from 12/31 of the prior year.

While the IRS did not specify in its PLR, the distributions taken under the RMD-like method are likely to be taxed under normal LIFO annuity taxation rules.

Not every insurance carrier allows beneficiaries to elect the RMD-like distribution method, so be sure to check before telling the client his options.

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.