What Does the Annuity Commencement Date Mean? Payouts, Taxes, Penalties

The annuity commencement date is the day your annuity contract stops accumulating value and starts paying you income. Federal tax law calls it the “annuity starting date” and defines it as the first day of the first period for which you receive a payment.¹ On that day, three things change at once: your money shifts from growing tax-deferred to paying out, the tax treatment of every dollar you receive is set, and in most cases you give up access to the underlying balance as a lump sum. The decision is largely irreversible, which is why the timing carries so much weight.

What Sets the Date

Three forces can put you at the commencement date: your own election, a deadline written into your contract, and federal tax rules on qualified accounts.

Most deferred annuity owners choose when to begin payments by notifying the insurer and selecting a payout option. The insurer then calculates your payment from the accumulated value, your age, current interest rates, and the structure you picked. This is the version you want, because you control the timing.

Nearly every deferred contract also sets a maximum age by which payments must begin, commonly between 85 and 95. If you haven’t elected by then, the insurer will annuitize the contract automatically and start sending checks under a default payout you didn’t choose. Knowing your contract’s ceiling well in advance is the only way to avoid that.

The third force applies only to annuities held inside tax-qualified accounts like traditional IRAs, 401(k)s, or 403(b)s. Required minimum distributions kick in at age 73 for people born between 1951 and 1959, and at age 75 for those born in 1960 or later.² Missing the required amount triggers a 25% excise tax on the shortfall, dropped to 10% if you correct it within two years. RMDs don’t strictly force annuitization; you can satisfy them with partial withdrawals instead. But once payments from a qualified annuity begin, they count toward the RMD.

Pushing the Date Later With a QLAC

A Qualified Longevity Annuity Contract is a deferred annuity designed to move income further into retirement. The premium you put into a QLAC is excluded from the balance used to calculate RMDs, so it isn’t forcing distributions while it sits and grows.³

Federal rules cap the QLAC commencement date at no later than the first day of the month after you turn 85.³ The maximum premium across all your retirement accounts is $210,000 for 2026, adjusted annually for inflation. The tool fits retirees who have enough income from other sources in their seventies and want larger guaranteed checks starting later.

What Actually Changes on That Day

Before the commencement date, the contract has a cash value. You can surrender it (possibly with charges), borrow against it, or exchange it for a different product. After the commencement date, the insurer takes your accumulated balance and converts it into a promise of future payments using actuarial calculations based on your life expectancy, the chosen payout, and current interest rates.⁴

That conversion, called annuitization, ends your access to the principal as a lump sum. Any optional riders or guaranteed minimum benefit features you were paying for typically terminate, replaced by the fixed terms of your payout election. The payment amount reflects conditions at that single moment, which is why annuitizing when interest rates are low means permanently lower checks.

The Payout Option Gets Locked In

The structure you pick on the commencement date controls both the size of your payment and what happens to the money at your death:

Life only. Payments run for your lifetime and stop when you die. No beneficiary receives anything. Because the insurer has no obligation after death, this option produces the largest monthly payment.
Life with period certain. Payments run for your lifetime, but if you die inside a guaranteed period (often 10 or 20 years), a beneficiary collects the remaining payments through the end of that period. The payment is lower than life only.
Joint and survivor. Payments continue for the lifetimes of both you and a second person, usually a spouse. Combined life expectancy stretches the payout window, so the monthly amount is lower than a single-life option.⁴

The wrong option here is permanent. A life-only election that maximizes income sounds appealing until the annuitant dies two years later and a surviving spouse gets nothing. A joint-and-survivor election for someone with no dependents sacrifices income for a benefit no one needs.

How Payments Are Taxed After Commencement

Tax treatment splits along a single line: was the annuity funded with pre-tax or after-tax dollars?

Annuities inside traditional IRAs, 401(k)s, and similar tax-deferred accounts were funded with money that has never been taxed. Every dollar you receive after the commencement date is ordinary income at your regular rate. There is no tax-free portion because there was no after-tax investment to recover.

Non-qualified annuities work differently. You already paid tax on the premiums, so the IRS does not tax that portion again. Each payment splits into a taxable part (the earnings) and a tax-free part (the return of your original investment), using a formula the IRS calls the exclusion ratio. Divide your cost basis by the expected return over your lifetime, using IRS actuarial tables for the life expectancy factor.⁵

Once you have recovered your entire cost basis through the tax-free portions, every payment after that is fully taxable.⁴ Live well past your actuarial life expectancy and you end up in the same place as a qualified annuity. Your insurer reports the taxable portion each year on Form 1099-R.

The 10% Penalty for Taking Money Out Early

Pulling money from an annuity contract before age 59½ triggers a 10% additional tax on the taxable portion of the withdrawal.¹ The penalty applies to both qualified and non-qualified annuities and stacks on top of regular income tax.

Several exceptions eliminate it even before 59½:¹

Distributions to beneficiaries after the owner’s death.
Distributions after the owner becomes disabled as defined by the tax code.
A series of substantially equal periodic payments based on life expectancy, taken at least annually. This is sometimes called a 72(q) or 72(t) schedule.
Immediate annuities that begin paying income right away.

The IRS penalty is separate from any surrender charge your insurer imposes. Surrender charges are contractual fees for early withdrawals that typically decline over the first seven to ten years of the contract. A single early withdrawal can trigger both.

Resetting the Date With a 1035 Exchange

If your current contract has features you have outgrown, or if better terms sit elsewhere, Section 1035 of the Internal Revenue Code lets you move the balance into a new annuity contract with no gain or loss recognized on the exchange.⁶

The effect on the commencement date is direct: the transfer starts a fresh accumulation period inside the new contract, with new terms and a new commencement date further out. Your cost basis carries over. The same provision permits exchanging an annuity for a qualified long-term care insurance policy.⁶

Two cautions. The new contract may start its own fresh surrender charge period, and its terms could be worse depending on your age and current rates. And the exchange has to go directly between insurance companies. If the money passes through your hands, the IRS treats it as a taxable distribution followed by a new purchase, and the tax-free treatment is gone.

Annuitizing Only Part of the Contract

You don’t have to convert the whole balance at once. Section 72(a)(2) lets you annuitize a portion and leave the rest accumulating.¹ The annuitized portion must pay out over at least 10 years or over one or more lifetimes to qualify.

The IRS then treats the annuitized portion as a separate contract with its own commencement date. Cost basis is allocated proportionally between the two portions, and each has its own exclusion ratio.¹ You get guaranteed income from one piece and keep the other piece liquid and growing. It suits someone who needs income now but doesn’t want to lock up everything.

Dying Before Payments Start

If you die during the accumulation phase, before the commencement date arrives, the contract’s death benefit passes to your named beneficiary. In most cases that’s the full accumulated value, though some contracts pay an enhanced amount if you bought that rider.

For annuities inside qualified retirement plans, federal law may require the death benefit to be paid as a lifetime annuity to a surviving spouse, called a qualified pre-retirement survivor annuity.⁷

For IRA-based annuities and most other accounts, the beneficiary’s timeline turns on their relationship to the deceased owner. A surviving spouse has the most flexibility, including the option to treat the inherited annuity as their own. Most non-spouse beneficiaries who inherited after 2019 must withdraw the entire balance by the end of the tenth year following the owner’s death.⁸ Inherited annuity distributions are not subject to the 10% early withdrawal penalty regardless of the beneficiary’s age.

Dying after the commencement date is a different situation. Once payments have begun, what a beneficiary receives depends entirely on the payout option locked in at that moment. Life only means nothing continues. Period certain or joint-and-survivor keeps some payments going, on terms already fixed.

1
Office of the Law Revision Counsel. 26 USC 72 – Annuities; Certain Proceeds of Endowment and Life Insurance Contracts
2
Internal Revenue Service. Retirement Plan and IRA Required Minimum Distributions FAQs
3
Internal Revenue Service. Instructions for Form 1098-Q (04/2025)
4
Internal Revenue Service. Publication 939 (12/2025), General Rule for Pensions and Annuities
5
Internal Revenue Service. Publication 939 (12/2025), General Rule for Pensions and Annuities – Section: Expected Return
6
Office of the Law Revision Counsel. 26 USC 1035 – Certain Exchanges of Insurance Policies
7
Internal Revenue Service. Retirement Topics – Qualified Pre-Retirement Survivor Annuity (QPSA)
8
Internal Revenue Service. Retirement Topics – Beneficiary