An annuity gets no step-up in basis at death. Heirs owe income tax on the growth, and how they take the money changes the bill.
When you inherit stocks or a house, the tax value generally resets to what it was worth on the date of death. Annuities don’t get that reset. Every dollar the annuity grew during the owner’s life is taxed as ordinary income when the beneficiary takes it, and the payout option you choose decides how much of it lands in any one year.
The insurer’s claim paperwork will say which kind it is, and it changes almost everything that follows.
That last row matters for planning. If an annuity is money the owner never expects to spend, it will pass to heirs with its growth still taxable. A life insurance death benefit generally reaches them income-tax-free. Whether repositioning makes sense depends on health, age and the contract, and it is a conversation to have with a CPA. Fixed index annuities vs. whole life.
If you are the surviving spouse and the sole beneficiary, you can usually continue the contract as the new owner. Tax deferral continues, and nothing is taxed until you take money out.
Any other beneficiary generally chooses one of three:
Say a parent leaves a non-qualified annuity worth $300,000, bought with $200,000 of premiums. The $100,000 of growth is taxable to the heir; the $200,000 of premiums is not.
Taken as a lump sum, the full $100,000 of gain is added to the heir’s income in one year. Spread over five years or a lifetime, smaller amounts of it land in each year, which can keep more of it in lower brackets. Exactly how much of each payment is taxable depends on how it is paid, so ask the insurer for the cost basis and run the options with your CPA.
Hypothetical example for illustration only. Not tax advice.
Distribution rules for inherited annuities come from the Internal Revenue Code and IRS guidance: IRS Publication 575 (Pension and Annuity Income) and IRS Publication 590-B (Distributions from IRAs). Each contract sets which options it offers and the deadlines to elect them. This page is general information, not tax or legal advice.
Usually, on the growth. Annuity gains are taxed as ordinary income when the beneficiary takes them, with no step-up in basis. In a non-qualified annuity, the original premiums come back tax-free; in an annuity inside an IRA, generally the whole amount is taxable.
No. Stocks and real estate generally reset to their value on the date of death, but an annuity's accumulated gain stays taxable to the beneficiary as ordinary income.
For a non-qualified annuity, a non-spouse beneficiary who doesn't elect another option generally must withdraw the whole balance within five years of the owner's death. You can take it all at once or in pieces, as long as it's all out by the end of the fifth year.
Often, for a non-qualified annuity: payments over your life expectancy spread the tax across many years. It usually has to be elected within a year of the owner's death, and the contract has to allow it. For annuities inside an IRA, most non-spouse beneficiaries face a 10-year rule instead.
A spouse named as sole beneficiary can usually continue the contract as the new owner, keeping its tax deferral. A spouse can also take a lump sum or payments, and for an annuity inside an IRA can usually roll it into their own IRA.
An estate generally can't use the life-expectancy option, so the five-year rule usually applies, and the money may go through probate. Naming individual beneficiaries, with contingents, avoids that.
