Qualified annuity

A qualified annuity is funded with money that hasn't been taxed yet, typically through a traditional IRA, a 401(k) or 403(b) rollover, or an employer plan. "Qualified" refers to the tax-qualified retirement account holding it, not to the annuity's features, so any type can be bought this way: fixed, indexed, variable or an immediate income annuity.

Because contributions went in pre-tax, the full amount of each withdrawal or payment is usually taxable as ordinary income. Withdrawals before age 59½ generally face a 10 percent additional tax unless an exception applies, and required minimum distributions must begin at the age the tax code sets. Hypothetically, a retiree who rolls $200,000 from a 401(k) into an annuity inside an IRA pays income tax on every dollar she takes out. A non-qualified annuity, by contrast, is bought with after-tax money, so only the earnings are taxed.

A common critique is that an IRA already defers taxes, so buying an annuity inside one adds no extra tax benefit. The case for doing it rests on the guarantees, such as lifetime income, not on tax deferral. Annuities held in a Roth IRA follow Roth rules instead. See Should you put an annuity in an IRA? and how annuities are taxed.