Qualified vs NonQualified Annuity

What is the difference between a “qualified” and “non-qualified” annuity?

When purchasing an annuity it is important to make a distinction between the two categories of funds that can be used to purchase the annuity. The distinction is important since the IRS looks at funds in terms of qualified or non-qualified, in order to determine that money’s taxability.

Qualified Funds

Qualified funds are those that are currently placed within and IRS (Internal Revenue Service) approved tax-deferred account. Annuities purchased with Qualified Funds cannot be withdrawn before age 59 1/2 without an IRS imposed 10% penalty. Qualified funds must alwo be abtained from earned income... in other words they cannot be money that was inherited or given as a gift to the annuitant.

Non-Qualified Funds

Non-qualified Funds simply means money that is not part of an IRS approved tax-deferred account. Non-Qualified Funds are have already been taxed, so the funds are commonly referred to as "after tax dollars". Since taxes have already been paid on the funds used to purchase the annuity, only the interest earned on the principal is taxed.

Sources for Qualified and Non-Qualified Funds

The most important distinction between Qualified and Non-Qualified funds used to purchase an annuity, is the source that the funds come from. The table below illustrates some of the fund sources that can be used for Qualified and Non-Qualified Annuities.