Taxing retirement income: Nonqualified annuities and distributions from qualified accounts

This paper explores the current tax treatment of non-qualified immediate an nuities and distributions from tax-qualified retirement plans in the United States. First, we describe how immediate annuities held outside retirement accounts are taxed. We conclude that the current income tax treatment of a nnuities does not substantially alter the incentive to purchase an annuity rather than a taxable band. We nevertheless find differences across differe nt individuals in the effective tax burden on annuity contracts. Second, we examine an alternative method of taxing annuities that would avoid changin g the fraction of the annuity payment that is included in taxable income as the annuitant ages, but would still raise the same expected present discou nted value of revenues as the current income tax rule. We find that a shift to a constant inclusion ratio increases the utility of annuitants and that this increase is greater for more risk averse individuals. Third, we exami ne how payouts from qualified accounts are taxed,focusing on both annuity p ayouts and minimum distribution requirements that constrain the feasible ti me path of nonannuitized payouts. We describe briefly the origins and worki ngs of the minimum distribution rules and we also provide evidence on the f unction of retirement assets potentially affected by these rules.