What Happens at the End of an Annuity Contract: Payouts and Taxes

At the end of an annuity contract, the accumulation phase permanently ends on the maturity date and you have to decide how to receive the money: take a lump sum, convert the value into a stream of income payments, or move it directly into a new annuity. Most deferred annuities set that maturity date at age 95, though some contracts use age 100 or later. If you do nothing before the deadline, the insurer applies the default payout method written into your contract, and once that election takes effect it is generally impossible to undo.

What the Maturity Date Actually Is

The maturity date is the point identified in your contract where the accumulation phase ends. After that date, the contract stops crediting interest or reflecting market gains, and the insurer is obligated to begin distributing the accumulated value under whichever payout option you selected (or the default option if you selected none).

This is not the same as the end of the surrender charge period. Surrender charges are fees the insurer imposes if you withdraw money during the early years of a contract, and they typically expire long before maturity. Once those charges lapse, you can withdraw funds without the insurer’s early withdrawal fee, but the contract keeps growing until the maturity date unless you act sooner. At maturity, a decision is required regardless of how long ago the surrender period ended.

Your maturity date appears in the policy schedule pages you received when the annuity was issued. Most insurers also send a written notice as the date approaches, giving you time to evaluate options and submit paperwork.

What Happens If You Don’t Choose

The insurer will not simply hold your money past maturity. Your contract contains a default payout provision that takes effect automatically. The specific default varies, but a common one is a life income annuity with a period certain, for example guaranteed payments for your lifetime with a minimum payment period of ten years. Some contracts instead default to a lump sum when the account value is below a stated threshold, often around $5,000.

The reason this matters is that annuitization is generally irrevocable. Once your accumulated value has been converted into a guaranteed income stream, you no longer have access to the underlying funds and you cannot restructure the payments. If the default option doesn’t fit your circumstances, you can be locked into an income arrangement you never actively chose. Reading the default provision well before the maturity date is the only way to avoid that outcome.

Your Payout Options

When the contract matures, you typically choose from several methods. Which one fits depends on your age, health, income needs, and whether you want anything left for beneficiaries.

Lump sum. You receive the entire accumulated value in a single payment. That gives you full control of the money, but every dollar of earnings becomes taxable in the year of distribution, which can push you into a higher bracket.
Life annuity. The insurer pays a fixed amount for as long as you live. Payments stop at your death and nothing passes to beneficiaries. Because the insurer carries the longevity risk, the periodic payment is typically higher than under other options.
Life annuity with period certain. Payments continue for life, but if you die before a guaranteed period expires (commonly 10 or 20 years), your beneficiary receives the remaining payments through the end of that period.
Joint and survivor annuity. Payments run for your lifetime and then for the lifetime of a second person, usually a spouse. The survivor’s payment may be the same amount or a reduced percentage, such as 50% or 75%, of the original.
Fixed period. Payments are made over a set number of years regardless of whether you are alive. If you die during the period, your beneficiary receives the remaining payments.

Once you annuitize and payments begin, the choice is permanent. If you don’t need income yet, there is a further alternative: moving the value into a new deferred annuity instead of starting payments.

Moving the Value into a New Annuity (1035 Exchange)

You can transfer your annuity’s value directly into another annuity contract without triggering tax. This is called a 1035 exchange, named for the tax code section that allows it. Under that provision, no gain or loss is recognized when you exchange one annuity contract for another annuity, or for a qualified long-term care insurance contract.¹

The transfer has to run directly from the old insurer to the new one. If you personally receive the funds, even briefly, the IRS treats the transaction as a taxable distribution rather than a tax-free exchange. In practice, you apply for the new annuity, sign an exchange authorization, and the receiving insurer contacts your current insurer to request the transfer. When it settles, the original insurer sends confirmation of the transfer amount and your cost basis (the after-tax money you originally invested), which carries into the new contract.

A 1035 exchange resets any surrender charge schedule, so the new contract can impose a fresh set of early withdrawal fees. Compare the new contract’s crediting method, fees, and riders against those charges before authorizing the exchange.

How the Distribution Is Taxed

Non-Qualified Annuities

A non-qualified annuity was purchased with after-tax money outside a retirement account. You owe income tax only on the portion of each distribution that represents investment earnings, not on the return of the money you originally put in. The IRS determines the tax-free share using an exclusion ratio: your investment in the contract divided by the total expected return.² That ratio applies to every payment, so part of each check is a tax-free return of capital and part is ordinary income.³

If you invested $100,000 and the expected return under the contract is $200,000, the exclusion ratio is 50%. Half of each payment is a tax-free return of your investment; the other half is taxed as ordinary income.

Qualified Annuities

A qualified annuity is held inside a tax-advantaged account such as an IRA or an employer retirement plan. Because contributions were pre-tax (or tax-deductible), the entire distribution is ordinary income. There is no exclusion ratio, because you never paid tax on the money going in.²

Qualified annuities also carry required minimum distribution rules. For individuals born between 1951 and 1959, RMDs start at age 73; for those born in 1960 or later, they start at 75.⁴ Annuitizing into a lifetime payment stream generally satisfies the RMD, but if you instead take a lump sum or roll into a new deferred annuity, you still have to meet the annual withdrawal requirement. Missing an RMD triggers a 25% excise tax on the shortfall.⁵ Non-qualified annuities are not subject to RMD rules; their distribution timing is governed by the contract.

Tax Reporting

Your insurer reports distributions on Form 1099-R, which shows both the gross distribution and the taxable amount.⁶ You should receive the form by the end of January following the year of distribution. Use the figures on that form when filing so your return matches what the IRS has on file.

Submitting the Election

To process the payout, the insurer verifies your identity and confirms how the money should be delivered. Have these on hand:

Your contract number, found on the original policy documents and annual statements.
Your Social Security number, needed for tax reporting and identity verification.
Current names and contact details for any designated beneficiaries.
Bank routing and account numbers if you want the funds sent electronically.

You will complete a distribution request form, sometimes called an Election of Option form, on which you select the payout method and provide banking or mailing details. Some insurers require a notarized signature for high-value distributions. Check every field before you sign; an error in a routing number or a name will delay payment.

Most insurers accept electronic submissions through their online portals, though a few still require mailed originals. Electronic filings usually process faster. After verification, funds sent electronically typically arrive within a few business days, while mailed checks take longer. The insurer issues a closing statement confirming the distribution amount and any tax withholding.

If You Die Before the Full Value Is Paid Out

If you die after payments have already started but before the full value has been distributed, the remaining payments must continue to your beneficiary at least as quickly as they were reaching you. Under a life-with-period-certain option, for example, a beneficiary receives the remaining scheduled payments through the end of the guaranteed period.²

If you die during the accumulation phase, before the annuity starting date, non-qualified contracts follow different rules. The entire value must generally be distributed to your beneficiary within five years of your death. That five-year deadline does not apply if a named beneficiary elects to take the funds as a stream of payments over their own life expectancy and those payments begin within one year of your death.² A surviving spouse who is the designated beneficiary has more flexibility and can be treated as the new owner of the contract, continuing it on their own timeline.

Beneficiaries pay income tax on the earnings portion of inherited non-qualified annuity payments, using the same exclusion ratio that applied to the original owner. For inherited qualified annuities, the entire distribution is ordinary income to the beneficiary.⁷

1
Office of the Law Revision Counsel. 26 USC 1035 – Certain Exchanges of Insurance Policies
2
Office of the Law Revision Counsel. 26 USC 72 – Annuities; Certain Proceeds of Endowment and Life Insurance Contracts
3
Internal Revenue Service. Publication 939 – General Rule for Pensions and Annuities
4
Internal Revenue Service. Retirement Topics – Required Minimum Distributions (RMDs)
5
Office of the Law Revision Counsel. 26 USC 4974 – Excise Tax on Certain Accumulations in Qualified Retirement Plans
6
Internal Revenue Service. About Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc.
7
Internal Revenue Service. Publication 575 – Pension and Annuity Income