How to Transfer an Annuity to an IRA

You can transfer an annuity into an IRA if it's already part of another IRA or an employer-sponsored pension plan. If the annuity is not in an IRA or your employer's pension plan, you should consider several things before you transfer funds.

Annuities are tax-deferred. When you remove funds, you have to pay taxes on them regardless of your age. If you're younger than 59 1/2, you may have to pay penalties too. So, before you move money from an annuity to an IRA, consider the consequences.

Check the amount of money you have in the annuity. For the 2019 tax year, you can't put in more than $19,000 if you're under 50 ($18,500 for 2018), unless it's a transfer or rollover from a qualified account. A qualified account means that the money was already in a government-approved pension plan or IRA.

If the money in the annuity is qualified, simply open an account and fill out the paperwork for a custodian-to-custodian transfer to an IRA, mutual fund or bank product. There are no tax consequences in this case.

Consider taxation and penalties. While you might not be able to remove the entire amount you have in your annuity, you may be able to remove just enough for an IRA. But you'll incur taxes on the growth and a 10 percent penalty if you're under 59 1/2.

The government considers money you take out to be "LIFO" – last-in-first-out. Interest or growth is the last into the contract. So, much or all that you remove would be growth. The taxes and penalty you incur may negate any tax benefits

Find out if you have to pay a penalty on the early surrender of funds. If you just put money into an annuity, normally there's no growth to tax, but there might be an early surrender penalty. Check the annuity contract's table of contents under "Surrender Penalties" to see how long your money has to stay in the annuity. Some insurance companies allow a 10 percent penalty-free withdrawal; for example, if your deposit was $50,000 or more, the company would allow you to withdraw $5,000 with no penalty.

Ask your annuity company for a withdrawal form. You'll take what's called "constructive receipt" of the funds, regardless of where the company sends the check. This means that when you pay next year's taxes, you'll pay tax and penalty on the growth if you're under 59 1/2.

Deposit the check into your checking account and then open an IRA if the money was in an ordinary annuity. Write a check from your checking account to the IRA. You'll have a better tracking method when the check comes directly from your account. If you like, you can have the insurance company send the check directly to the IRA custodian, but then you can’t remove any funds needed for taxes.