How To Avoid Paying Taxes on An Inheritance

Shawn Plummer

CEO, The Annuity Expert

Want to learn the best ways to leave money to heirs? This guide will provide tax strategies to minimize or avoid paying taxes on an inherited annuity, 401k, and IRA. In addition, it’ll include methods for the insured providing the inheritance and the beneficiary to receive inheritance money. These tax strategies are perfect for:

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For the insured wanting to leave money to heirs.

Here are a few tips if you’re researching ways to pro-actively want to leave your beneficiaries’ inheritance and reduce their tax burden. These strategies apply to qualified retirement plans such as a 401k or IRA and your annuity accounts.

Note* If you are healthy, purchase life insurance first, then consider these tax strategies.

Annuities with Enhanced Death Benefits

Some annuities offer a life insurance alternative called Enhanced Death Benefits. These benefits are designed to maximize a death benefit without the medical underwriting required with applying for life insurance.

By utilizing these enhanced death benefits, your heirs would either

  • spread the tax burden over time,
  • pay fewer taxes overall, or
  • completely cover their tax bill.

Life Insurance-Annuity Hybrid Plans

A life insurance annuity hybrid plan is designed for asset transfer using non-qualified deferred annuities with a low tax basis or qualified retirement plans.

The plan consists of two contracts, a temporary Single Premium Immediate Annuity (SPIA) and Single-Premium Life Insurance Policy.

Converting Annuities, 401k, and IRA to Life Insurance

The payments from the SPIA will go directly to the life insurance policy. This process lets the insured spread the taxable income in the funds used to purchase the SPIA over a 5,7, or 10 year payment period. The result is leaving a tax-free death benefit for your beneficiaries.

These hybrid plans also can fulfill RMD’s for your IRA or 401(k) as well.

The life insurance coverage is guaranteed on Day 1 and will not lapse as long as the hybrid plan is not canceled.

Some life insurance annuity plans will offer both the tax-free life insurance proceeds and the remaining payouts if the insured dies before the payout duration ends.

Examples:

The Application Process

  1. Request a quote.
  2. Submit an application and health questionnaire.
  3. Conduct a 20-minute phone interview with a medical underwriting team.
  4. Wait up to 48 hours for approval. Typically, the approval rate is high; the decline rate is low.
  5. If approved for life insurance coverage, transfer the funds.
  6. Each year you’ll receive a 1099 form to report the SPIA payment to the IRS.

The Beneficiary Perspective

The Surviving Spouse

If a surviving spouse recently inherited an annuity, they can either pay taxes on all of the funds now, spread the tax payment over time, or exercise the spousal continuation provision. Spousal continuation is the tax strategy to avoid paying taxes now.

Non-Spousal Beneficiaries

If a non-spousal beneficiary inherits money, an annuity, or a qualified retirement plan without the benefits mentioned, they can utilize a bonus annuity to help offset the tax burden.

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At The Annuity Expert, we strive to help you make confident financial decisions regarding annuities. Content provided is created by an independent licensed financial professional.

The Annuity Expert is an online insurance agency that provides the widest variety of annuities in the United States. When you buy an annuity directly from us, we receive a predetermined commission from the insurance company (not you). While your annuity is active, clients are not charged any servicing or management fees. Learn more.

Shawn Plummer

CEO, The Annuity Expert

I’m a licensed financial professional focusing on annuities and insurance for more than a decade. My former role was training financial advisors, including for a Fortune Global 500 insurance company. I’ve been featured in Time Magazine, Yahoo! Finance, MSN, SmartAsset, Entrepreneur, Bloomberg, The Simple Dollar, U.S. News and World Report, and Women’s Health Magazine.

The Annuity Expert is an online insurance agency servicing consumers across the United States. My goal is to help you take the guesswork out of retirement planning or find the best insurance coverage at the cheapest rates for you. 

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