Do You Have to Take RMDs From an Annuity?
Learn how required minimum distributions apply to your annuity. The rules for taking withdrawals are determined by the contract's specific tax treatment.
Whether an annuity is subject to required minimum distributions (RMDs) depends entirely on how it was funded. An RMD is a mandatory withdrawal the Internal Revenue Service (IRS) requires from most retirement accounts once the owner reaches a specific age. This age is currently 73, but it is set to increase to 75 for individuals born in 1960 or later. An annuity is a contract with an insurance company that provides a stream of payments.
RMD Rules for Qualified Annuities
A qualified annuity is one purchased with pre-tax dollars inside a tax-deferred retirement plan, such as a Traditional IRA, 401(k), or 403(b). Because the funds have not yet been taxed, these annuities are subject to the same RMD rules as the accounts that hold them. This means you must begin taking withdrawals once you reach the mandatory age. Failure to take the correct RMD amount can result in a tax penalty of 25% of the shortfall, which can be reduced to 10% if corrected within a two-year window.
The rules for taking these distributions differ based on the account type. For annuities held within Traditional IRAs, the IRS allows for aggregation. You must calculate the RMD for each individual IRA you own, but you can add those amounts together and withdraw the total from any one or a combination of your IRAs. The value of the annuity is included with your other IRA balances for this calculation.
This flexibility does not extend to employer-sponsored plans like 401(k)s. If you hold an annuity within a 401(k), its RMD must be calculated and withdrawn separately from that specific plan.
Distribution Rules for Non-Qualified Annuities
A non-qualified annuity is purchased using after-tax dollars, meaning you have already paid income tax on the principal investment. Consequently, these annuities are not subject to the lifetime RMD rules that govern qualified retirement accounts. An owner of a non-qualified annuity is not required by the IRS to take any distributions during their lifetime.
Despite the absence of lifetime RMDs, non-qualified annuities are governed by specific distribution rules after the owner’s death. Upon the death of the annuity holder, the beneficiary must begin taking distributions from the contract. The tax code provides two primary options for beneficiaries.
The first is the “five-year rule,” which requires the entire interest in the contract to be distributed within five years of the owner’s death. The second option allows a designated beneficiary to receive payments over their own life or life expectancy, but these distributions must begin no later than one year after the owner’s death.
Calculating Your RMD With an Annuity
When your qualified annuity is subject to RMDs, its value must be included in your overall calculation. The first step is to determine the fair market value (FMV) of your annuity contract. This figure is provided by the insurance company on your year-end statement, dated December 31 of the previous year. This statement, often IRS Form 5498, will report the value needed for your calculation.
Once you have the annuity’s FMV, you must add it to the December 31 balances of all your other Traditional, SEP, and SIMPLE IRAs. The final step involves the IRS Uniform Lifetime Table, found in IRS Publication 590-B. You locate your age for the distribution year to find the corresponding “distribution period,” which is a life expectancy factor.
To determine your total RMD for the year, you divide your aggregated IRA balance (including the annuity’s FMV) by this factor. For example, a 75-year-old with a total IRA value of $500,000 and a distribution period of 24.6 would have an RMD of $20,325 for the year.
How Annuitization Affects RMDs
Annuitization is the process of converting the accumulated value of your annuity into a series of irrevocable, guaranteed payments. When you annuitize a qualified annuity, the rules for satisfying your RMD can change significantly. If the payment stream is set up to last for your lifetime or the joint lifetimes of you and a beneficiary, the payments themselves can satisfy the RMD for that specific annuity.
This treatment means the value of the annuitized contract is no longer included in the standard RMD calculation that uses the Uniform Lifetime Table. The periodic payments you receive are considered your distribution for that portion of your retirement assets.
These annuity payments only satisfy the RMD for the funds within that particular annuitized contract. If you have other retirement assets, such as other IRAs or a 401(k) plan, you must still calculate and take RMDs from those accounts separately. The annuitized payments cannot be used to offset the RMD obligations for your other, non-annuitized retirement funds.