June 9, 2023

Annuity Death Benefits and Payout Options: What You Need to Know As A Beneficiary

When you purchase an annuity, you are making a long-term investment. You say, “I want to receive payments now in exchange for giving up some of my future earnings potential.”

In most cases, you will pay into the annuity for years before beginning to receive payments. And once you start receiving those payments, they will continue until your death.

But what happens to the money in your annuity when you die? That’s where things can get complicated – and knowing the facts is essential before making any decisions.

What Is An Annuity Death Benefit?

An annuity death benefit is a payment made to the beneficiary of an annuity contract holder upon their death. The purpose of this benefit is to provide financial security for loved ones and cover any outstanding costs or debts the contract holder may have had.

There are various types of annuity death benefits, including:

The basics death benefit pays out the current value of the annuity regardless of whether it has gone up or down over time.
Return of premium returns either the original premium or pays the account value, whichever is larger.
A stepped-up benefit allows the annuity owner to buy a rider that steps up the value of the annuity based on a high-water mark.

The payout options available to beneficiaries include receiving a lump-sum payment if the contract holder dies before receiving payments or continuing to receive payments if the contract holder dies after the annuity start date.

It’s essential to carefully consider the different death benefit options and seek help from a licensed professional in choosing the best fit for your needs.

How Do Annuity Death Benefits Work?

An annuity death benefit is a payment made to the beneficiary of an annuity contract holder upon their death. This benefit usually equals the annuity value at the time of the contract holder’s death.

Unlike life insurance, the payout for an annuity death benefit is based on the contract value and not the face value of the policy. Depending on the contract provisions, beneficiaries can receive either a lump sum or a series of payments.

If the contract holder dies before they have started receiving payments from their annuity, the beneficiary will receive a lump-sum payment. If the contract holder dies after receiving payments, the beneficiary will either continue receiving those payments or nothing.

Annuity death benefits are taxable, unlike life insurance proceeds. If you’ve inherited an annuity, speak with a tax professional about any tax consequences you may face.

Who Can Be A Beneficiary Of An Annuity Death Benefit?

Annuity Beneficiaries: Family Members

Family members such as spouses, children, and grandchildren can be named beneficiaries of an annuity death benefit. If the spouse who remains alive is named as the recipient, they can take on the annuity proprietor role and increase the funds on a tax-deferred basis.

In the case of a joint annuity agreement with co-owners, the policy’s second owner will continue to receive payments throughout their lifetime. Children and grandchildren can also be named as beneficiaries, but it is essential to consider their age and financial situation, as the annuity payments may affect their eligibility for government benefits or financial aid.

Annuity Beneficiaries: Churches and Nonprofit Organizations

Churches and nonprofit organizations can be named as beneficiaries of an annuity death benefit. This allows the annuitant to support their favorite charities and causes after death.

Annuity Beneficiaries: Living Trusts

An annuitant can name a living trust as the beneficiary of an annuity death benefit, which allows for greater control and flexibility over the distribution of payments to the trust beneficiaries. This can be especially beneficial if the annuitant wants to specify the terms and conditions for distributing the annuity payments to their heirs.

However, naming a living trust as a beneficiary requires careful planning and legal expertise, and the annuitant should consult with an estate attorney before taking action.

Annuity Beneficiaries: Friends

While many annuity owners choose family members as beneficiaries, friends can also be named beneficiaries of an annuity death benefit. To designate a friend as a beneficiary, the annuitant must specify their full name, date of birth, social security number, and the percentage or fixed amount they will receive in the annuity contract.

How Is The Annuity Death Benefit Payout Determined?

The annuity death benefit provision payout is determined based on several factors outlined in the terms of your annuity contract. The death benefit payout to the beneficiary or beneficiaries withdrawn from the annuity in the following ways:

The remaining assets in the annuity account may be paid out to the beneficiary at the time of the annuitant’s death.
The death benefit may be a preset minimum amount, such as the premiums paid minus any amount received.
The payout amount may also depend on the period for receiving annuity payments.
Sometimes, the annuity may automatically add a certain percentage to the initial investment as the death benefit.
If the annuitant dies before the payout period, the beneficiary will receive the amount paid into the plan or the cash value, whichever is greater.
If the annuitant dies after receiving payments, the beneficiary will generally continue receiving those payments or nothing.
The payout amount may also depend on whether the owner has already begun to receive annuity payments and whether the contract provisions include a death benefit.

Types Of Death Benefits And Payout Options For Annuities

1. Survivorship Annuity

A survivorship annuity is a type of annuity that is jointly owned by two people, most commonly a married couple. Upon the death of one annuitant, the surviving spouse will continue to receive payments for the remainder of their life.

There are two types of survivorship annuities: 100% survivor annuity and 50% survivor annuity. With a 100% survivor annuity, the monthly annuity payment remains the same after the death of one joint annuitant, while with a 50% survivor annuity, the surviving annuitant receives only half of the monthly payout made to the joint annuitants while both were alive.

The advantage of a survivorship annuity is that it provides a reliable income stream for the surviving spouse. The disadvantage is that it does not allow for lump-sum payments, which may concern some.

2. Joint Survivorship Annuity

Joint Survivorship Annuity is an annuity where two people, typically a married couple, own the policy. Upon the death of one annuitant, the surviving spouse will continue to receive payments for the remainder of their life.

This payout option ensures that the surviving spouse has a reliable income stream, even after the death of their partner. Joint Survivorship Annuities do not allow for lump-sum payments, which may be a disadvantage for some, as burial expenses can be high.

The co-owner of the contract, who is the surviving spouse, does not qualify as a beneficiary but can prolong the tax responsibility. The remaining value of your annuity does not prevent the annuity company from continuing to pay out the lifetime guaranteed income to the joint survivor.

3. Death Benefit Rider

A death benefit rider is an add-on provision to an annuity contract that determines the money paid to the beneficiary after the annuitant’s death. There are two main types of death benefit riders: basic and enhanced.

Basic death benefits guarantee that the beneficiary will receive at least the amount of money contributed before annuitization, while enhanced death benefits provide more transferable wealth if specific growth requirements are met.

These benefits come in various forms and for a range of fees, and can be calculated based on factors such as the highest account value on the annuity’s anniversary or the highest monthly or quarterly account value.

Adding a death benefit rider to an annuity contract may benefit those who want to ensure their beneficiaries receive a larger payout upon death. However, it’s important to note that death benefit riders disappear once annuitization occurs and that fees may be charged for these riders over the life of the policy.

4. Lottery Annuity

Lottery annuities are a popular way for lottery winners to receive their money over time. However, if the winner dies before the end of the annuity period, what happens to the payments?

Most states allow the winner to designate a beneficiary to receive the remaining payments. However, some states only allow one beneficiary, so if the winner wishes to leave the money to multiple heirs, the payments may be made to their estate for distribution.

5. Annuity with a Contingent Beneficiary

A life annuity with a contingent beneficiary is a contract that designates a person or entity to receive benefits if the primary beneficiary dies before the owner. The owner can modify beneficiaries at will if the annuity agreement does not specify a beneficiary as irrevocable. The contingent beneficiary typically only benefits if the primary beneficiary dies before the owner.

There are three payout options available for beneficiaries inheriting an annuity:

Lump-Sum Distribution: The beneficiary can receive the remaining contract value in one payment.
Nonqualified-Stretch Provision: The beneficiary receives payments based on their life expectancy.
Five-Year Rule: The beneficiary can withdraw incremental amounts during a five-year period or the entire sum in the fifth year.

6. Single-Life Annuity

A single-life annuity is a type of annuity that provides payments to the annuitant for the duration of their lifetime. Payments are based on the annuitant’s age, interest rates, and account balance. The annuitant receives a guaranteed income stream for life, but no death benefits are associated with this option.

A single-life annuity receives the highest monthly payout as the annuity company does not need to pay a death benefit or continue payments to beneficiaries or co-owners.

7. Deprivation Clause

The Deprivation Clause is a provision in annuity contracts that allows the insurance company to reduce or withhold death benefits if the annuitant dies within a certain period after purchasing the policy. This clause prevents individuals from using annuities to transfer wealth to their beneficiaries while avoiding estate taxes.

The specific period and reduction amount can vary depending on the contract, but exceptions may apply, such as if the annuitant dies due to an accident or if the beneficiary is the surviving spouse. Understanding the Deprivation Clause when considering an annuity as part of an estate plan is essential.

How To File A Claim And Distribute The Annuity Death Benefits

Step 1: Identify the annuity death benefit

The standard death benefit for an annuity is a payment made to the beneficiary of an annuity contract holder upon their death. Understanding how to identify and distribute the annuity death benefit when filing a claim is essential.

Here is a step-by-step guide to help you:

Determine your annuity type (immediate annuity, fixed indexed annuity, variable annuity), as this will affect the death benefit payout.
Check the annuity owner’s initial agreement to see if additional riders or features may affect the annuity payout options.
Determine the death benefit amount, which can be the contract value, premiums paid, or a preset minimum amount.
Contact the annuity company to file a claim and provide the necessary documentation, such as a death certificate, policy number, and beneficiary information.
Choose how to receive the payout, based on the different options available within the contract.
Be aware of the tax implications of the death benefit payout, as it is generally considered taxable income once the beneficiaries access the inherited annuity.
Distribute the funds to the beneficiary according to the annuity contract and applicable laws.

Remember to seek guidance from a licensed annuity professional to help you navigate the annuity death benefit and make the best financial decisions.

Step 2: Get a copy of the death benefit certificate

To obtain a copy of the death benefit certificate for an annuity policy, beneficiaries must contact the National Association of Insurance Commissioners with a death certificate from the funeral home that conducted the burial or cremation. The process can take up to 90 business days, and beneficiaries should be prepared to provide as much personal information about the deceased as possible, including their name, social security number, date of birth, and other relevant details.

Step 3: Calculate the amount of the death benefit

Calculating the death benefit for annuity claims requires carefully considering the type of annuity and the chosen death benefit option. Generally, the death benefit amount is determined by subtracting any fees and withdrawals from the contract value or the sum of all contributions, whichever is greater.

Sometimes, the death benefit may also be calculated based on a preset minimum amount or a high-water mark.

Step 4: Consider setting up a trust to receive the death benefit

Setting up a trust to receive the annuity death benefit can be wise for individuals who want to ensure their loved ones receive the funds quickly and privately without going through probate. The owner creates the annuity terms of the death benefit payout and can specify only a portion of your annuity is transferred to a trust, and another portion is distributed to an individual.

Step 5: Contact potential beneficiaries

When filing a claim and distributing the annuity death benefits, the annuity company will require the beneficiary to provide certain documents and information. To contact potential beneficiaries, follow these steps:

Obtain a copy of the annuity contract and review the beneficiary designation.
Gather contact information for the beneficiaries, including their full names, addresses, and phone numbers.
Contact each beneficiary by phone or mail to inform them of the annuitant’s death and that they are named as a beneficiary.
Provide the beneficiary with the required documents, such as a death certificate and proof of identity.
Advise the beneficiary of any tax implications or potential penalties associated with the distribution of the annuity death benefits.
Work with the annuity company to ensure the timely and accurate distribution of the death benefits.

How Do Taxes Affect Annuity Death Benefits?

1. Qualified Annuities Death Benefit Taxes

Qualified annuities are held in tax-deferred retirement accounts such as 401(k) plans or IRAs. If the policyholder dies and the death benefit is paid to the beneficiary, the beneficiary will be required to pay income tax on the death benefit.

2. Nonqualified Annuities Death Benefit Taxes

The tax treatment depends on the beneficiary’s relationship with the annuitant for nonqualified annuity death benefits. The death benefit may be tax-free if the beneficiary is the annuitant’s spouse.

However, if the beneficiary is a non-spouse, the death benefit may be subject to income tax. Surrendering the annuity may also have tax consequences.

If the annuity has appreciated, surrendering it could result in a taxable gain. While the initial investment will be tax-free, the gains will be subject to taxation.

3. Estate Annuity Death Benefit Tax

If the death benefit is paid to the policyholder’s estate, it may be subject to estate taxes depending on its total value. This means that a significant portion of the benefit could be lost to taxes, leaving less for the beneficiary.

Beneficiaries may also be required to pay income tax on the death benefit, depending on their relationship to the policyholder and the type of annuity.

For example, if the beneficiary is the policyholder’s spouse and the annuity is nonqualified, the death benefit may be tax-free. However, if the beneficiary is a non-spouse, the death benefit may be subject to income tax.

To minimize tax liability, beneficiaries can plan by considering their options for taking distributions from the annuity.

For example, they may be able to stretch out the payments over a more extended period, which could reduce their tax burden. Additionally, they may take advantage of deductions such as the Income in Respect of a Decedent deduction, which can help offset the impact of estate taxes.

What Happens To An Annuity When You Die?

An annuity is a contract between an individual and an insurance company that guarantees an income for life or a specific period. When you die, the fate of your annuity depends on the type of annuity you have and the options chosen at the time of purchase.

If you have a single-life annuity, which guarantees payments only for your lifetime, your payments will stop when you die. However, a lifetime annuity may offer various payout options allowing continued payments to your beneficiaries.

For instance, joint and survivor fixed index annuity continue to pay after your death to a named beneficiary, until the spouse’s death.

Another option is to choose a fixed-period annuity, which pays for a specific period, regardless of whether you live or not. For example, if you decide on 10-year certain payouts and die after five years, your beneficiaries will receive payments for the remaining five years.

If you have invested a lump sum in an annuity and die before all payments are made, the remaining balance can be passed on to a designated beneficiary. However, the rules may differ if you have purchased an annuity in a retirement account like a 401(k) or an IRA.

Ways to Legally Evade Payment Of Taxes On An Inherited Annuity

When you inherit an annuity, taxes are inevitable. However, there are ways to minimize the tax burden.

Here is a step-by-step guide on how to avoid paying unnecessary taxes on an inherited annuity:

Determine the payout structure: The payout structure selected determines how taxes are paid. The most significant amount of tax is imposed on lump-sum payouts. One way to avoid a substantial tax bill is to stretch out the payments over a longer time frame.
Review the status of the beneficiary: Surviving spouses can change the original contract into their name. This enables partners to receive equivalent tax deferral benefits, just like the initial owner of the annuity.
Consider enhanced death benefits: An annuity owner can purchase an annuity with an enhanced death benefit to offset their beneficiary’s future taxes when they die.
Opt for joint payout: Living annuity owners can elect a joint payout to continue paying the surviving spouse an income for the rest of their life. Payouts are tax-free if the contract is a Roth IRA Annuity.
Seek financial advice: Consult with your tax accountant to review your options and the various tax scenarios.
Properly transfer the annuity: To avoid triggering unnecessary taxes, it is essential to transfer it properly. After the annuitant’s death, there is increased flexibility given to the spouses to modify the conditions of the annuity arrangement. Hence, if they assume ownership of the annuity, similar to how the spouse who survived takes ownership of the contract, they can evade paying all the accumulated taxes at once.
Complete necessary forms and documents: If you choose to transfer the annuity, complete any necessary forms or documents to ensure a smooth transfer process.

Annuities can offer you guaranteed income for life once you hit retirement age. Our team of annuity consultants will walk you through the annuity contract terms and discuss the benefits and how it works.

Find out how an annuity could help you and your family by contacting one of our annuity experts to discuss all of the annuity guarantees available in your state.

What Are The Benefits Of Having An Annuity?

1. Additional Security in Old Age

An annuity purchased through Integrity Now Insurance Brokers will ensure the owner and co-owners of an annuity are property set up to provide them with financial security for their future. When you buy an annuity, they offer a guaranteed income stream for life, which can help retirees cover their living expenses and maintain their lifestyles.

Some annuities offer riders that provide long-term care coverage, which can help retirees cover the costs of nursing home care if needed.

2. Convenience of Having a Monthly Payment

Social Security payments offer just enough to get by during retirement. And with government shutdowns, your social security check could be delayed for weeks if not months.

Annuities are not tied to the federal budget; retirees use an annuity to provide an additional guaranteed check for the remainder of their lives. Even if you outlive your retirement savings, the guaranteed monthly annuity payment will continue until the owner and your spouse pass.

3. Ability to Invest Withdrawals From an Annuity

Retirees may not need the extra funds generated from their fixed-index annuity when they start taking their required monthly distribution check. You can invest some or the entire amount in CDs, or bonds to continue earning interest on your money.

Integrity Now Insurance Brokers may be able to establish a short-term fixed annuity depending on your age and financial position.

4. Chance to Make a Profit on Market Changes

Annuities are invested in various assets, such as stocks, bonds, and mutual funds, and the return on investment is based on the performance of these underlying assets. This means that if the market performs well, the annuity owner can share these profits.

Fixed index annuities offer features like principal protection, guaranteed income, and death benefits, which can provide peace of mind and financial security.

5. Protection From Financial Risks

You have spent a lifetime of stock market highs and lows as you near retirement. Now is the time to protect your retirement savings from future stock market corrections that can take years to recover.

Annuities protect you from financial downturns while allowing you to guarantee your monthly income.

6. Ability to Designate Beneficiaries

One of the key features of annuities is the ability to designate beneficiaries. Only the owner can designate beneficiaries, individuals, organizations, or trusts. The beneficiary designation is an essential part of the annuity contract and should be reviewed periodically to ensure that it still aligns with the annuitant’s wishes and circumstances.

Named beneficiaries are safeguarded from probate, the legal procedure for administering an individual’s assets after death. This means the beneficiary is provided a death benefit after the annuitant dies without going through a lengthy and expensive legal process.

7. Possibility of a Lump-Sum Payment

A lump-sum payment is a possible payout option for beneficiaries of an annuity. This means that the remaining value of the annuity can be paid out in a single large payment after the annuitant’s death.

The advantage of choosing this option is that it allows a beneficiary to make a significant purchase or investment. However, there are tax consequences as the entire taxable sum must be paid to the IRS at once.

8. Potential Tax Benefits

Annuities offer several tax benefits that can make them an attractive option for retirement planning. One of the main advantages is the tax-deferred growth feature, which means that the earnings on the annuity are not taxed until they are withdrawn. This can help your savings grow faster over time.

9. Ability to Combine With Other Savings Tools

An annuity can be a valuable addition to your retirement savings plan when combined with other savings tools. Diversification is vital to creating a robust retirement plan, and an annuity can provide a guaranteed income stream in addition to other retirement savings vehicles such as 401(k)s, IRAs, and Social Security.

When your stocks, mutual funds, 401k, and IRAs are affected by a bear market, your fixed index annuity will never fall below your investment amount. When the bull market returns, your annuity continues to move upward and does not need to compensate for the losses.

What are the annuity death benefit payout options?

Annuity death benefits payout options vary depending on the specific contract and insurer. Beneficiaries typically have the option of receiving a lump-sum payment, installment payments, or annuitization. Annuity income payments received may be subject to income taxes.

Are annuity death benefits subject to probate?

Annuities generally avoid probate and are not part of an estate, as long as a beneficiary is designated in the annuity contract. If there is no designated beneficiary, the annuity may go through probate.

Does the annuity owner have control over the death benefit payout?

Yes, the owner typically controls who will receive the annuity’s death benefit payout. They can designate a beneficiary to receive the remaining payments, and they can choose a lump sum or a series of payments.

Inherited annuities are taxable to the beneficiaries, and a tax account should be contacted before the annuity pays out a death benefit.

Are there any limitations to annuity death benefits?

When you receive a nonqualified annuity as an inheritance, you will be responsible for paying income taxes on the amount that exceeds the principal paid into the annuity at the time of the owner’s passing. Depending on how the owner set up the annuity, they may have limited how it pays out before their passing.

How to update the annuity death benefit beneficiary designation?

Contact the annuity provider to update the beneficiary designation for an annuity death benefit and request a beneficiary designation form. Ensure the form is completed correctly and accurately reflects your wishes and circumstances.

What happens if the annuitant dies before drawing from the annuity?

If the annuitant dies before drawing from the annuity, the beneficiary will receive either a lump-sum payment of the total premiums paid into the annuity or the plan’s cash value, whichever is greater. The surviving spouse will receive the payments if the annuity is set up as a survivorship annuity. If there is no surviving spouse, the beneficiaries named in the annuity contract will receive the payments.

Can an annuity be passed on to heirs?

Yes, an annuity can be passed on to heirs by naming a beneficiary and specifying the payout they should receive. The beneficiary can keep the annuity, take a one-time payout, take a multiyear payout, use a non-qualified stretch, roll the money into an inherited IRA, or carry out a 1035 exchange.

Can annuity beneficiaries be contested in court?

Annuity beneficiaries can be contested through a complex legal process that requires the assistance of a qualified attorney. To contest a beneficiary designation, there must be legal grounds for challenging it, such as fraud, undue influence, or lack of capacity.

State law plays a significant role in determining the validity of beneficiary designations, and the legal requirements for contesting a beneficiary may vary from state to state.

If a challenge is successful, the court may order a new beneficiary designation or distribute the annuity funds according to state law.

Seeking Annuity Help For Your Family

Planning for your family’s future can be daunting, especially when deciding on the best annuity options to invest in. Seeking annuity help from trusted experts can simplify the process for you and your family.

Integrity Now Insurance Brokers is a reliable source for annuity advice and assistance. Our team of licensed professionals ensures that they fully understand your financial goals and unique needs.

With our guidance, you can choose the right annuity plan that suits your family’s current and future financial needs. Additionally, they offer ongoing support to ensure your investment consistently performs as expected.

Seeking annuity help from Integrity Now Insurance Brokers guarantees peace of mind and security for you and your loved ones.