Ask an Advisor: How Does Inheriting an Annuity Work? Can I Roll the Funds into My IRA?

My husband has an annuity that he has not rolled into an IRA. If I inherit this annuity, does it work the same as if he had an IRA? Can I roll the funds into my IRA. We are both retired and are in our early 80s. – Carol

No, you wouldn’t be able to roll your husband’s annuity into your IRA. Depending on the type of annuity, there are situations where this could be allowed due to your relationship, but not in the situation you are describing.

A financial advisor can help you manage your retirement assets and make decisions around rollovers and Roth conversions. Connect with an advisor for free.

Qualified vs. Non-Qualified Annuities

Annuities are generally classified as either qualified or non-qualified, depending on how the contract was funded. If an annuity is purchased within a tax-advantaged retirement account, such as a traditional IRA or 401(k), it is considered a qualified annuity. When an annuity is bought using after-tax dollars outside of a retirement account, it is categorized as non-qualified.

In this context, the term “qualified” refers less to the type of annuity and more to the source of the funds used to purchase it. Fixed, variable and indexed annuities can all fall into either category depending on whether they were funded with retirement account assets or with money that had already been taxed.

Since you mentioned that your husband did not roll this annuity into an IRA, it likely means the contract was purchased using funds outside of a retirement account, making it a non-qualified annuity.

Because non-qualified annuities are funded with after-tax dollars and exist outside of retirement accounts, they generally cannot be rolled into an IRA. The IRS does not allow assets held in taxable accounts to be converted into IRA funds through a rollover. (If you’re unsure whether an annuity fits into your retirement strategy, a financial advisor can help evaluate your options.)

Inheriting a Non-Qualified Annuity

If you inherit a non-qualified annuity, the annuity doesn’t “turn into” an IRA. Instead, it continues to be treated as an annuity contract with its own rules and tax structure.

This also affects how it’s taxed. Typically, only the gains in the annuity are taxable. The original premium paid into the contract is not taxed again. However, distributions are generally treated as coming from earnings first, meaning the taxable portion often comes out before the tax-free portion.

Also, once the contract is inherited, you may be required to take distributions under a certain schedule. It depends on the terms of the annuity contract and IRS rules. Some annuity contracts require distribution within a certain time period after the owner’s death, and some provide options for stretching payments.

While an inherited annuity can continue to generate income, it does not function in the same manner as an inherited IRA. (Consider working with a financial advisor if you have additional questions about inheriting an annuity or IRA.)

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Inheriting a Qualified Annuity

If your husband held a qualified annuity, the situation would be different. Because qualified annuities are owned inside retirement accounts, they generally follow the same inheritance and distribution rules that apply to IRAs.

Spousal beneficiaries are treated differently under the tax code. A surviving spouse may roll an inherited IRA, including a qualified annuity inherited from a spouse, into an IRA in their own name.

This offers several benefits. First, it simplifies administration. Once rolled into your own IRA, you no longer have to treat the account as an inherited asset. You can manage it like your other retirement accounts.

Second, it may help with required minimum distributions (RMDs). Since you are already in your early 80s and taking RMDs, this may not dramatically change your situation, but rolling it into your own IRA may allow the account to be combined with your other IRA assets and managed more efficiently.

Non-spouse beneficiaries do not have the option of rolling it into an IRA in their own name.

What Are Your Options When You Inherit an Annuity?

If you inherit an annuity, the available options depend largely on the type of annuity and the contract terms. While the ability to roll the funds into an IRA may be limited in many cases, beneficiaries typically still have several ways to access or manage the inherited asset.

Take a Lump-Sum Distribution

One option is to withdraw the full value of the annuity in a single lump sum. This approach provides immediate access to the funds, which may be helpful if the money is needed for expenses or to simplify financial accounts.

However, there can be tax consequences. With a non-qualified annuity, the earnings portion of the contract is generally taxed as ordinary income in the year the distribution is taken. Taking the entire balance at once could push a beneficiary into a higher tax bracket for that year.

Continue the Contract

In some cases, especially for a surviving spouse, it may be possible to continue the annuity contract in the beneficiary’s own name. This allows the annuity to remain invested and potentially continue growing on a tax-deferred basis.

This option can help maintain the original structure of the annuity while giving the beneficiary more time to plan distributions. Whether this option is available depends on the contract terms and the insurance company’s rules.

Receive Payments Over Time

Another possibility is taking distributions over a set period of time. Some annuity contracts allow beneficiaries to receive payments over several years or according to a schedule outlined in the contract.

Spreading payments out may reduce the tax impact compared with taking a lump sum, since income is recognized gradually rather than all at once. This approach can also create a predictable income stream for the beneficiary.

Annuitize the Contract

Some beneficiaries may also have the option to annuitize the inherited contract. Annuitization converts the remaining annuity value into a stream of regular payments, which may last for a set number of years or for the beneficiary’s lifetime.

This option can provide steady income but typically reduces flexibility, since once payments are annuitized the payout schedule is usually fixed.

Bottom Line

An investor signing an annuity contract.

Unless the annuity is a qualified annuity, meaning it is already held within a retirement account, you can’t roll it into your own IRA.

If your husband’s annuity is non-qualified, inheriting it will not give you the same rollover options you would have if you inherited his IRA. Instead, you would need to follow the distribution and tax rules that apply to inherited non-qualified annuities.

Before making any decisions, it may be worth confirming whether the annuity is qualified or non-qualified by reviewing the contract paperwork or asking the issuing company directly. That one detail determines a lot, so it’s important to get it right.

Retirement Planning Tips

A financial advisor can help translate goals into a coordinated strategy that addresses investments, taxes, withdrawal planning and risk management. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
As earnings rise, gradually raising retirement contributions can prevent lifestyle inflation from crowding out long-term saving. Even small percentage increases over time can meaningfully improve future income potential.

Brandon Renfro, CFP®, is a SmartAsset financial planning columnist and answers reader questions on personal finance and tax topics. Got a question you’d like answered? Email AskAnAdvisor@smartasset.com and your question may be answered in a future column.

Please note that Brandon is not an employee of SmartAsset and is not a participant in SmartAsset AMP. He has been compensated for this article. Some reader-submitted questions are edited for clarity or brevity.