Pay Your Annuity Tax at the Right Time and Pay Less

While annuities provide both protection and annuity deferred interest accrual for millions of retired savers, the annuity owners cannot out off the annuity tax indefinitely. This is perhaps his chief disadvantage, interest income that is distributed from the annuity is annuity taxed at the annuity owner's top marginal tax rate.

However, there are three circumstances in which one can gain annuity tax relief when taking withdrawals from annuities.

The first scenario refers to small (or large) business owner who experiences a year with negative business earnings. As long as the business is not deemed a passive activity, the loss can be used to cancel out other types of cash flow, such as investment income. For example, in case a shopkeeper realizes an operating loss of $15,000 in a given year, then he or she might take a $15,000 fixed annuity distribution in which same year and have the business loss offset the income so that no tax is due.

One additional way to exempt your annuity from annuity taxation is to designate an experienced charity as the beneficiary for the contract. After you pass away, the particular charity will then receive the earnings of the annuity, with no income or estate tax liability.

A third way of offsetting annuity tax with is to use the earnings to pay for long-term care expenses. Health care expenses (including the premiums for a long term care policy) that exceed 7.5% of a annuity taxpayer's adjusted gross income are generally fully deductible. The majority of long-term care bills can easily exceed that level, often running in excess of $40,000 in a single year.

For example, a married couple filing jointly will have to have itemized deductions in excess of $10,000 in order to claim them. Yet a $40,000 long-term care expense will put most filers significantly over this threshold. If the couple hypothetically has an adjusted gross income of $32,500, then 7.5% of that is $2,437.50. As a result, all long-term care expenses over that amount, or $37,562.60, would be deductible. So if they took a $40,000 annuity distribution to cover the expenses, almost all would be offset by the expense and the annuity tax would be almost nothing.

The general idea is to offset the annuity tax by taking income form your annuities in years when you have either little other income or something to offset the annuity income. If you are looking ways to reduce annuity taxation from annuity distributions, a little knowledge can help to conserve a lot of annuity tax.