A registered representative is explaining the structural, tax, and regulatory rules governing non-qualified variable annuities during the accumulation phase to a 50-year-old investor. Which of the following statements regarding variable annuity accounts, early surrender mechanics, and tax treatment are correct?
- Premium payments allocated to subaccounts within the separate account are subject to market volatility and investment risk borne entirely by the contract owner.Answer
- BPayment of an insurer's contingent deferred surrender charge (CDSC) exempts the contract owner from the 10% IRS penalty on taxable distributions taken prior to age 59½.
- Random partial withdrawals during the accumulation phase are taxed on a Last-In, First-Out (LIFO) basis, treating distributions as taxable ordinary income until all earnings are depleted.Answer
- A Section 1035 tax-free exchange allows an investor to defer income taxes when transferring contract values to a new annuity, though the existing contract may still incur surrender charges.Answer
Answer
The correct statements are that separate account subaccounts pass market risk to the contract owner, non-qualified early withdrawals are taxed on a LIFO basis as ordinary income, and Section 1035 exchanges defer income taxes without waiving insurance surrender charges.
The valid statements correctly highlight that separate account subaccounts pass investment risk to the purchaser, non-qualified contract withdrawals are taxed on a LIFO basis prior to annuitization, and Section 1035 exchanges provide tax deferral while leaving contractual surrender fee obligations intact.
Step-by-Step Solution
Key Concept
Taxation, investment risk, and surrender charge mechanics of non-qualified variable annuities
Estimated Time:1m 40s