TAX-FREE VS. TAX-DEFERRED ANNUITIES: WHICH ONE IS RIGHT FOR YOUR CLIENT?

Depending on the type of settlement your client receives, there may be an opportunity to maximize the settlement funds while minimizing the tax burden. In some instances, your client may be eligible for an income-tax free structured settlement annuity, while others may qualify for a tax-deferred structured settlement annuity. Both offer a number of advantages over investments in the open market, making them attractive for those desiring long-term financial stability with minimal tax consequences.

Tax-Free Structured Settlement Annuities

A tax-free structured settlement annuity qualifies for special tax treatment under IRC §§104(a)(2) and 130(c). The government allows those who receive financial awards for certain types of settlements to invest all or a portion of their funds in a structured settlement annuity. The structured annuity provides a secure stream of 100% tax-free payments and can be funded with as little as $10,000. Your client can choose how often payments are received—monthly, bi-annually, annually, or in a future lump sum.

Your client may be eligible if: They received a settlement in a personal injury, workers’ compensation, or wrongful death case.

Why tax-free structured settlement annuities are a good idea: Although most lump sum settlements from these types of cases are tax-free, if the proceeds are placed in a traditional investment, the growth on the investment may be taxable. Not only is the growth on a structured settlement annuity tax-free, but the rate of return is guaranteed, making it immune to fluctuations in the market.

Tax-Deferred Structured Settlement Annuities

Other types of settlements do not qualify under IRC § 104(a)(2) for income tax exclusion, but they may be eligible for income tax deferral if placed in a structured settlement annuity. Much like their tax-free counterparts, tax-deferred structured settlement annuities are flexible in design, with payment schedules customized to fit your client’s financial needs.

Your client may be eligible if: They received a settlement for one of the following types of cases: divorce, employment disputes, sexual harassment, wrongful termination, discrimination, psychological/emotional damage, punitive damages, breach of confidentiality, breach of contract, construction defects, environmental claims, pre-August 6, 1997 workers’ compensation claims, and select other types of claims. Attorneys may also be able to defer taxes on their fees by structuring them.

Why tax-deferred structured settlement annuities are a good idea: A large lump sum could potentially bump your client into a higher tax bracket. By electing to receive the settlement as a series of periodic payments, your client will only have to pay taxes as the funds are received, as opposed to getting hit with a huge tax bill all at once.

Inform Your Client Early

The IRS allows claimants a one-time opportunity to structure their settlement proceeds. The decision must be made prior to finalizing the settlement and the appropriate language must be included in the settlement agreement. That’s why it’s important to make sure that your client has information about all of their settlement options up front. To learn more about tax-free and tax-deferred structured settlement annuities, contact The Settlement Alliance-WEST at info@tracikaas.com or 800-354-2258.

Disclaimer: The Settlement Alliance-WEST does not provide legal or tax advice.