#4 Annuities

How much you are going to be taxed on an annuity depends on how you have purchased it and what type of annuity you have purchased. Generally speaking, the insurance company that is going to sell you that annuity is legally required to not only tell you how much of it will be taxable but also what types of annuities you are going to be buying.

If you have gotten one that is specifically made to provide you some extra income in retirement, then what you have initially paid for the annuity is tax-free. The rest that you will be making is going to be taxed at the normal income tax rate. As an example, if your annuity was worth $100,000 when you first purchased it, only to be worth around $170,000 after 10 years, you will have to pay taxes only on the generated earnings, or easier said, on the $70,000.

If your annuity is one with a pretax fund (like a traditional IRA), then the rules are different. For those, you will have to pay tax on the whole sum as it will be counted as ordinary income. It is a good idea to find out what type of annuity you have before you reach retirement age or to take into consideration the income you will have when you make use of it.