Question

I need help on questions 18,19,20 please!!

18. Which of the following correctly describes the basic income tax treatment of nonqualified annuities? a. Contract principal is not subject to taxation; interest earnings are subject to taxation. b. Contract principal is subject to taxation; interest earnings are not subject to taxation. c. Neither contract principal nor interest earnings are subject to taxation. d. Both contract principal and interest earnings are subject to taxation. 19. The exchange of one annuity contract for another is a tax-free transaction under the rules of: a. IRC Section 72(t) b. FINRA Rule 2330 C. IRS Revenue Ruling 2003-51 d. IRC Section 1035 20. Lorraine invested $50,000 in a nonqualified deferred annuity at the age of 50. Three years later, the contract has grown to $64,000, and Lorraine takes a $5,000 withdrawal. The contract is still in its accumulation stage. Which of the following statements is true? a. The withdrawal is fully taxable. b. The withdrawal is not taxable. c. $4,000 of the withdrawal is taxable; $1,000 is tax free. d. $1,000 of the withdrawal is taxable; $4,000 is tax free.

Answer 1

18. Correct option is option A. Contract principal is not subject to taxation; interest earnings are subject to taxation.

A non-qualified annuity is one which is bought with after-tax money as against qualified annuity which is bought with pre-tax dollars. Under both annuities, the tax amount is deferred until annuity payments start to the annuity holder. However, for non-qualified annuities, only earnings (interest) portion is taxable, principal portion is not taxable based on exclusion ratio, since such annuity was purchased with after-tax income.

19. Correct option is option D. IRC Section 1035.

A 1035 annuity exchange is a rule under Section 1035 under the Internal Revenue Code that allows for a tax-free exchange of a life insurance or annuity policy for a different annuity contract that is better suited to an investor's needs.

20. Correct option is option A. The withdrawal is fully taxable.

In case of non-qualified annuities, the withdrawals during accumulation phase are taxed on last-in first-out basis, which means that withdrawals will be treated earnings first till all of the earnings portion on your annuity is exhausted. Any withdrawal amount greater than the interest portion will be treated as return of money and not taxed. Here, earnings = $64,000 - $50,000 = $14,000 and withdrawal = $5,000. So, following LIFO this $5,000 is treated earnings and fully taxable.