Accumulation Period– The period of time between when the annuity is issued and when the insurance company begins to make income payments to the annuitant. Interest earned or investment results experienced on the accumulated payments during this time are added to the account tax-deferred under current tax laws.
Annuitization – Annuitization involves converting your accumulated retirement assets into a series of periodic payments that last for a period of time of your choosing, in accordance with the provisions of the annuity contract. When you annuitize your contract, you trade the value of your contract for the issuing company’s guarantee to make payments to you periodically for a certain period, or for your lifetime.
Annuity- An annuity is an investment product that provides safe, tax-deferred growth of your retirement nest egg. Annuities are considered low-risk, and can provide guaranteed, monthly income when you retire. There are many types of annuities with varying features & benefits. These include: fixed, variable, immediate, deferred & hybrid
Backup Withholding- Backup withholding is mandatory withholding that may be imposed when rules regarding taxpayer identification numbers (usually a Social Security number) are not met by the individual, or when a notice is issued by the IRS to withhold on payments to that individual. Backup withholding may be claimed as a credit by taxpayers on their federal income tax return.
Cap Rates- A cap rate is used with index annuities (fixed and variable). The rate is based on a link to a benchmark index (e.g., S&P 500) over a specified period of time (usually one year).
If the S&P 500 Index earned 10% and the declared cap rate is 5%, the account is credited 5% for that time period. If the index had a negative return for that time period (e.g., -12%), no loss is charged against the account.
Collateral Assignments- A collateral assignment is when the ownership rights in a contract or account are transferred from one person to another to serve as collateral for a debt. This transfer is usually made with the provision that the ownership rights revert to the original owner when the debt is repaid. A collateral assignment of a nonqualified annuity is considered a taxable event to the owner of the contract.
Cost Basis- Your initial payment/premium(s) paid to a nonqualified annuity is known as the cost basis in your contract. Since it was previously taxed, your cost basis will not be taxed upon withdrawal. If a previous distribution was not fully taxable, the cost basis would be reduced by the amount that was not taxable. For contracts purchased after August 14, 1982, a “withdrawal” must come from earnings first for tax purposes, and any amounts in excess of your cost basis will be taxed as ordinary income (an additional 10 percent “federal income” tax penalty may apply for those less than 59 1/2 years of age) upon withdrawal.
Cost of Insurance- When life insurance protection is used to fund benefits in a qualified retirement plan or Section 403(b) tax-deferred annuity, the contributions used to pay the life insurance premiums must be included in gross income for the year in which they are made. Prudential reports the cost of insurance as a service to its contract owners.
Cost of Waiver- Waiver of premium is a benefit available on qualified life insurance contracts that provides for the waiver or payment of premiums that fall due while the insured is totally disabled. Under a qualified retirement plan, contributions used to purchase waiver of premium benefits are taxable to the plan participant and must be included in gross income in the year in which they are paid.
Deferred Annuities- Type of annuity that can be funded through a single premium or through flexible payments over time. Can potentially help you to accumulate money for retirement, especially over an extended period of time. Your money grows tax deferred, which means you pay no taxes on earnings until you withdraw your money.
Direct Rollover- This is when an eligible qualified retirement plan or Section 403(b) distribution is moved directly from a qualified retirement plan or Section 403(b) tax-deferred annuity to an IRA or to another qualified retirement plan or Section 403(b) tax-deferred annuity. The individual’s employer will not have to withhold 20% for federal income taxes from a direct rollover.
Distribution Period- The period of time, either a specified number of years or lifetime, over which distribution payments are made to the annuitant. Earnings become taxable when the annuitant begins to receive payments. The payout during the distribution period can either be fixed or variable.
Distribution Reason Code- The distribution code is located in Box 7 of Form 1099-R. The distribution code indicates to the contract owner whether or not he or she may be subject to a 10% additional tax for early distribution. A Distribution Code 1 means that the contract owner is under age 59 1/2 and no other exception applies. A Distribution Code 7 means that a normal distribution took place and no additional tax will be imposed. A full description of all distribution codes is listed on the back of the form you receive.
Employer Plan or Qualified Plan-A tax-qualified retirement plan an employer establishes to benefit employees. Permissible contributions will depend on the type of plan (such as a defined benefit plan or a profit-sharing plan, including a Section 401(k) plan) and on what the particular employer elects. These plans are highly regulated and subject to significant IRS restrictions.
Exchange (1035)- A 1035 exchange is an exchange of one nonqualified contract for another. Internal Revenue Code (IRC) Section 1035 generally allows individuals to exchange life, endowment, or annuity contracts for similar contracts that are better suited to their needs, if eligibility requirements are met. For a 1035 exchange, the contract owner and the insured or annuitant combination on the old and new contract must be the same.
Excess Contributions to an IRA- An excess IRA contribution is one that exceeds the combined deductible and nondeductible limits established by the IRS. If an excess contribution is not removed prior to the tax return due date (including extensions) by the contributing individual, the excess contribution is subject to the 6% excise tax in the year of contribution. The excess will be carried over and subject to excise tax each year thereafter until it is removed. It is the responsibility of the client to file Form 5329 to calculate his or her penalty. Exclusion Ratio: (Nonqualified Income Annuity.) This is the ratio that determines which portion of an annuity distribution is earnings and which portion is a return of your original investment. Only the portion consisting of earnings is taxable.
Fixed Annuities – Fixed annuities offer guaranteed interest earnings, protection from market volatility, tax-deferred growth and access to your money.
Flexible Premium Annuities- Type of annuity that is funded over a period of time, generally years. Allows you to pay premiums of differing amounts (within a stated minimum and maximum) on a set schedule or randomly. Your assets accumulate on a tax-deferred basis and can fund either fixed or variable deferred annuities.
Immediate and Deferred Income Annuities – Immediate and deferred income annuities provide a predictable income stream with flexible payout options.
Index Annuities – Index annuities offer growth potential based in part on the performance of a market index for those who are planning for retirement or seeking guaranteed lifetime income.
Individual Retirement Account (IRA)- An IRA is a tax-advantaged personal savings plan that lets an individual set aside money for retirement. All or part of the participant’s contributions may be tax deductible, depending on the type of IRA chosen and the investor’s personal financial circumstances. Distributions from many employer-sponsored retirement plans may be eligible to be rolled into an IRA to continue tax-deferred growth until the funds are needed.
Interest-Only Option- A settlement option for annuities in which an individual is paid only the interest on the maturity proceeds. A Form 1099-R is issued in the year the annuity matures, and will report any taxable gain. From that point on, the owner receives interest on the maturity proceeds left on deposit.
“Nonqualified” Deferred Annuity- A contract that provides for tax deferral of investment income until withdrawn from the contract. Fixed annuities offer a fixed rate of return for a stipulated period, while variable annuities offer a choice of investment options.
“Nonqualified” Income Annuity- A contract that provides periodic payments based on life or joint life expectancies and/or a period certain (i.e., life and 10 years certain). The periodic payment amount is based on the amount used to purchase the contract, the terms of the payout, and an assumed rate of return.
Nonresident Alien (NRA)- A person who is not a citizen of the United States or does not maintain a tax residence within the country. NRAs are subject to special tax consideration. NRAs also include foreign fiduciaries, foreign partnerships, and foreign corporations. Form W-8 (BEN, ECI, EXP, IMY) has to be obtained from all persons claiming NRA status. For individuals, Form W-8 BEN will generally be the appropriate form. Payments to properly documented NRAs are generally exempt from IRS 1099 reporting and backup withholding rules. However the tax law requires 30% NRA withholding rate. Special Internal Revenue Code (IRC) provisions or income tax treaties may reduce or eliminate this withholding. Note: The old IRS Form W-8 will expire on December 31, 2000. You must file a new Form W-8 (BEN, ECI, EXP, IMY) before January 1, 2001, to be treated as an NRA.
Participation Rate- The participation rate is the proportion of the gain in a specified index (e.g., S&P 500) that is credited to the owner’s account. For example, the owner has a fixed index annuity that is linked to the S&P 500 Index. The annuity has a participation rate of 80%. If the S&P 500 Index has a gain of 6%, the owner would be credited 4.80% (subject to the cap rate).
Premature/Early Withdrawals (Distributions)- Withdrawals made from certain tax-favored plans may be subject to an additional 10% federal income tax if the withdrawal is made before the contract owner reaches age 59 1/2. In addition, company imposed surrender charges may apply to certain withdrawals.
Premium Taxes: Some states charge a tax on the contributions made to an annuity. The issuing company generally charges the annuity contract for any premium tax and other taxes based on premium it pays to the state.
“Qualified” Annuities- These are annuities purchased for funding an IRA, 403(b) tax-deferred annuity, or other type of retirement arrangements. Tax deferral is provided by an IRA or qualified retirement plan. An annuity contract should be used to fund an IRA or qualified retirement plan to benefit from an annuity’s features other than tax deferral, including the lifetime income payout option, the death benefit protection and, for variable annuities, the ability to transfer among investment options without sales or withdrawal charges.
Qualified Retirement Plan- Qualified retirement plans are generally any plan or arrangement eligible for special federal income tax treatment. Examples of qualified retirement plans include 401(k) plans, profit-sharing plans, IRAs, etc.
Retirement Plan Withholding- A distribution to an employee from an employer-sponsored retirement plan is generally subject to a mandatory 20% withholding for federal income taxes (unless the distribution is $200 or less). No withholding is necessary if the funds are directly rolled over into an IRA or other qualified retirement plan. Other rules apply to periodic distributions.
Rollover- A rollover is a distribution from a qualified retirement plan or Section 403(b) to an individual and then from the individual to another qualified retirement plan, Section 403(b), or IRA. After constructive receipt of the distribution, an individual has 60 days to roll the funds over into another qualified funding vehicle in order for the funds to remain qualified. (If the funds are distributed from a qualified plan or Section 403(b) tax deferred annuity, mandatory withholding will take place at a rate of 20%.)
Roth Conversion- You can roll over funds from a traditional IRA to a Roth IRA if you meet certain requirements. The taxable amount of the rollover funds will be included in the gross income for the year in which the conversion is made. If the conversion occurred in 1998, the taxable amount can be spread out over four years.
Roth IRA- A special type of IRA under which distributions may be tax exempt. Individuals may make nondeductible contributions into a Roth IRA if certain income requirements are met. Qualified distributions from a Roth IRA are tax free.
Simplified Employee Pension (SEP)- A simplified employee pension is a written arrangement or program that allows an employer to contribute tax-deductible dollars toward an employee’s retirement. A SEP may be established by a corporate or noncorporate employer. From an individual’s perspective, a SEP has the administrative simplicity of an IRA, but also allows the employer to make contributions on the employee’s behalf in addition to the employee’s annual contribution limit.
Single Premium Annuities- Type of annuity that can provide you with a way to turn a large sum of cash into guaranteed income. For those who have cash from an inheritance, legal settlement, business sale, etc., can fund an immediate or a deferred annuity. For those nearing retirement, who have assets accumulated in a retirement plan or other savings vehicle, can fund an immediate or a deferred annuity.
Spread- The spread is a percentage reduction of how much of the gain is credited to the owner’s account over a specific period of time (usually a year). For example, let’s say you purchase a fixed index annuity that credits you each year with the return of the S&P 500 Index for the prior year with a spread of 5%. You put $10,000 into the annuity in Jan. 2018, and by Jan. 2019, the S&P 500 Index has returned 10%. In that case, in Jan. 2019, the 5% spread would be subtracted from the 10% return, so you will be credited 5% instead of the full 10% return of the S&P 500.
Some fixed index annuities have both a spread and a participation rate. For example, you might buy a fixed index annuity that has a participation rate of 80% and a spread of 3%. Let’s say you put $10,000 into the annuity in Jan. 2018, and by Jan. 2019, the S&P 500 Index has returned 10%. In that case, in Jan. 2019, the 10% return would be multiplied by the participation rate of 80%, then subtract the 3% spread, so you will be credited 5% instead of the full 10% return of the S&P 500.
Surrender- Termination of the contract by the owner. Most annuity contracts impose surrender charges during the early years of the contract, and each subsequent contribution may have its own surrender charge period. All accumulated interest will usually be taxable to the owner at time of surrender, and tax penalties (10%) will apply if the owner is not yet 59½ years of age (unless an IRS exception applies).
Systematic Withdrawals- With this payout strategy, you can withdraw money from the accumulated value of your contract on a regular schedule – making it an effective way to supplement income either before or after retirement. Systematic withdrawals are also flexible.
Transfer- A tax-deferred exchange of funds in the same market:
- IRA to IRA
- 403(b) to 403(b)
- IRA/SEP to IRA
Pension plan to pension plan
The distribution is made directly from one financial institution to another.
Trust or Corporate Owner IRC Section 72(u)- If an annuity is issued after February 28, 1986, to a trust or corporation, the income earned on the annuity must generally be reported yearly. Generally, private individuals only report income at the time the annuity matures or a distribution occurs. Please refer to IRC Code Section 72(u) or consult your tax or legal adviser for more information
Uniform Gifts to Minors Act/Uniform Transfers to Minors Act (UGMA/UTMA)- This allows gifting to the name and taxpayer identification number of a minor. It may provide a tax benefit because some or all of the income produced by the investment may be taxed at the rate for the minor’s presumably lower income.
Variable Annuities -A variable annuity is a tax-deferred retirement vehicle that allows you to choose from a selection of investments, including stocks, bonds and money market funds, and then pays you a level of income in retirement that is determined by the performance of the investments you chose. It is a type of annuity contract that allows for the accumulation of capital on a tax-deferred basis with the opportunity to generate higher rates of returns. However, you assume the risk of the subaccounts not performing well, which can result in less capital accumulation and a smaller income stream. Compare that to a fixed annuity, which provides a guaranteed interest rate and a minimum payment at annuitization.
Withdrawal Charges– Most annuities will allow a certain percentage of the account value to be withdrawn free of charge in each of the initial contract years. Beyond this “free corridor,” a withdrawal charge, expressed as a percentage of the amount withdrawn, is assessed for a specified number of years after the issue of a deferred annuity or after the date of a subsequent contribution. The charge typically decreases annually until the year specified in the contract, when it reaches zero, and all future withdrawals are without charge