Taxable Amount Not Determined

L1: Taxable Amount Not DeterminedWe”ve had a SEPP on my wife”s Non-Qualified Variable Annuity since 2001. Up until 2004, they always used Dist Code 2 in Box 7 on the 1099-R. However, after all the changes in 2004, they”ve changed it to Dist Code 1, and, more curiously, checked the box in 2b, ”Taxable Amount Not Determined” (Make a long story short – – I got to figure out the amount, because they wouldn”t do it).Thanks to this site, I”ve found the IRS rules for those who prepare 1099-R”s. According to those rules, which are pretty clear I feel, they should have left the 1099-R alone, and it should still be Dist Code 2 in Box 7.Was the issuer of the 1099-R right to change everything around? Armed with my new info (the IRS rules mentioned above), should I try and convince them to change their mind?Would this potentially open a can of worms I don”t want to open?Now that the ”taxable amount” has been determined, should I leave well enough alone?Thanks for any and all suggestions and comments.2006-05-05 23:16, By: Boyd 9, IP: [172.16.1.77]
L2: Taxable Amount Not DeterminedThe insurance Company is within their rights to use a code of ”1” for the 1099-R, but for a non-qualified annuity they should be able to furnish the taxable amount.
You can always try to convince them – nothing ventured/nothing gained. Just make sure that you have the documentation to support the plan since it”s inception and you should be ok.
Taxable Amount Not Determined – It almost sounds like they started coding it like thay may code an IRA where after-tax contributions are typically not known since all IRAs are aggrgated and they may only have a portion of the entire account.2006-05-06 06:06, By: Gfw, IP: [172.16.1.77]

L2: Taxable Amount Not DeterminedDear GfwMany thanks for the input. I”m somewhat inclined to agree with your last comment…… esp when I take into consideration the many comments I”ve read here over the last few months or so, about how the current trend seems to be more and more for the issuers of 1099”s to shift the ”burden of proof” onto the taxpayer”s shoulders whenever possible. As has been said here several times, one taxpayer may have multiple SEPP”s in place but the insurance co. may only be aware of one of them….. how are they to know whether the taxpayer is following the rules or not??? Another reason I”m inclined to agree is that this annuity was originally started in ”92 with another co. we did a 1035 like-kind exchange in 1999. So, I dunno, maybe they”re confused about the original contribution amt?It would also be nice to have some simplification on all this from the IRS. It took me a LONG time to figure out the taxable amount, based on their instructions. Even tho” I”m not sure whether the Insurance co. is correct or not, in a way, I kind of prefer the ”taxable amt not determined” method…… rather than pay taxes on 100% of my wife”s SEPP withdrawals (as would be the case with a code 2), we only pay taxes on some 80-odd percent of it, using the IRS calculations.Now, if the insurance co. doesn”t change their minds yet again next year, I”ll have it licked!!!Thanks againBoyd 92006-05-06 14:55, By: Boyd 9, IP: [70.237.230.195]

L2: Taxable Amount Not DeterminedBoyd9,
I don”t see these two issues as being related to each other at all. The taxable amount of the SEPP payments should be provided. The insurance company should have collected the original investment amount when the 1035 exchange was done and when the SEPP began, they should have the amounts of investment and earnings in order to calculate the taxable amount. Since these payments are periodic as opposed to non periodic, I don”t think the earnings should be coming out first, but should be coming out ratably, and the company should be providing the breakdown on the 1099R.
The other issue is whether the taxable portion is subject to the early withdrawal penalty or not. If she has a valid 72t plan, a Form 5329 can be attached to claim the exemption regardless of how much of the gross distribution is taxable. It is possible that an error in the 2004 edition of the 1099R instuctions where 72t payments were not listed among the reasons to issue a “2” code is responsible for them changing to a 1. All that means is that you need to add the 5329 form if this is a valid 72t plan.
The bigger problem about the taxable amount is that if they won”t provide the breakdown, then you probably have to determine if you should be using the general rule or the Simplified method to figure it out yourself.
2006-05-06 23:38, By: Alan S., IP: [24.116.165.157]

L2: Taxable Amount Not DeterminedAlanMany thanks for your comments and observations. I agree with you….. I think definitely that the taxable amount SHOULD have been provided. My feeling is that, all along, the insurance co. (which is affiliated with a major ”low cost” brokerage house) has been trying to do as little as possible all along – – at least when it comes to all the ”technical tax stuff” – – I”ve had to figure out all of that – – everything, really – – myself…….. trips to the library to read the IRS code books, time on the phone with the IRS, books purchased, and of course, lots of time here.Publication 939 covers the general rule. The copy I have (a year or two old) states that nonqualified plans should use the general rule, not the simplified one (I imagine all this is subject to change now).What gripes me somewhat is that my wife made ONE contribution to this annuity way back in 1992. There”s technically NO excuse for them not to know the taxable amount – – even with a 1035 rollover back in 1999.I”ve puzzled and pondered deeply over the other issues that you raise. Depending on which IRS publication you read, one can be lead to interpret things in more than one way. It”s hard to know what the true ”correct” way is, as far as the IRS is concerned.Again, it was not our choice to do the ”taxable amount not determined” bit – – that was the insurance co.”s decision. Ever since they made the change (last year), I”ve gotten to know Form 5329 quite well.As warning, anyone considering purchasing an annuity, think hard! You have many options BEFORE you purchase one, and very few AFTER you do!Thanks againBoyd 9 2006-05-07 18:06, By: Boyd 9, IP: [70.237.230.195]

L2: Taxable Amount Not DeterminedIRS rules require that any distributions from a non-annuitized, non-qualifiedannuity will all be considered “income” until you get to the cost basis, at which time the distributions become “return of premium.” “Income” is taxable at ordinary rates whereas “return of premium” is not taxable. Since you are using 72(q) / SEPP for the distributions, then youseem to be in this situation.
If your wife had bought a Single Premium Immediate Annuity (SPIA) or annuitized a deferred annuity within 365 daysof contract issue, then she would not need to use 72(q) / SEPP to avoid the 10% penalty. Furthermore, she would be eligible for the “exclusion ratio” which allocates part of her distributions to “income” and part to “return of premium.” You are right thatthe exclusion ratio is a bear to calculate which is why the insurance company is required to provide the “taxable amount” on the 1099-R. However, I don”t think she has reached her cost basis yet.
Your wife”s single premium invested in 1992 would have probably grown quite nicely through March of 2000, and then started down the “slippery slope” of the market correction, unless she went to all or partially all cash sometime near that date. Even if she stayed investedwhen shestarted the SEPP in 2001, she probably had quite a nice size account to draw from. My guess is she was andstill is in a “gain” situation above her original 1992 investment, even with the SEPP withdrawals.
So, unless I”m missing somereally big aspect of your situation, I suspect that all of your wife”s distributions were fully taxable at ordinary income rates and she was not eligible for any exclusion at any time.
Jim2006-05-08 14:32, By: Jim, IP: [70.184.1.35]

L2: Taxable Amount Not DeterminedJim – You are absolutely correct – withdrawals under a non-qualified tax-deferred)annuity (even for a 72(q)/SEPP) are fully taxable to the extent there is any gainin the contract. The exclusion rules do not apply to withdrawals, only annuitization.2006-05-08 15:09, By: Gfw, IP: [172.16.1.80]

L2: Taxable Amount Not DeterminedJim and GFW,
My assertion that the the exclusion ratio applies to these payments are based on Pub 939 and 72(e) of the tax code. I believe these are periodic payments, and not periodic payments not just because they are part of a SEPeriodicP plan, but because they meet the definition of being paid out regularly and for a period in excess of one year. Pub 939 indicates that periodic payments are to be treated as though paid out as an annuity. If they are considered paid out as an annuity, then the exclusion ratio applies to those payments. I find no indication anywhere that annuity payments are limited to lifetime payments, and therefore I believe that after the SEPP terminates, further distributions would then be non periodic and income would be taxed first. At that point taxpayer would be over 59.5 and therefore the penalty would not apply to the fully taxable amount.
72e of the code seems to limit the taxation of earnings first to payments not received as an annuity. But I could still be incorrect, it wouldn”t be the first time.2006-05-08 16:46, By: Alan S., IP: [24.116.165.157]

L2: Taxable Amount Not Determined
They are only periodic in the sense that the initial payment stream meets the definition. However, the payment stream can change at any point or even be discontinued entirely which is the main difference between an immediate annuity (or settlement option) and systematic withdrawals.

While I have seen no PLRs that actually describe the taxation (or what constitutes the taxable portion) of payments under 72(q) they are indeed being made from a tax-deferred annuity prior to annuitization and not an immediate annuity as defined by the code. I do believe that if you did a survey of insurance companies, most all companies surveyed would calculate the taxable amount based on thewithdrawal rules and not the annuity rules – not totally binding on the taxpayer, but…

With that said, it would make an interesting request unfortunately the price is now pretty high for a PLR and I think I know which route the IRS would follow.
2006-05-08 16:56, By: Gfw, IP: [172.16.1.80]

L2: Taxable Amount Not Determined

Alan:
I copied the following from the front section of Pub 939. It addresses annuity payments from the “annuitized” status rather than taking “periodic payments” from an annuity “as an annuity.” In this status the payments would get the benefit of the “exclusion ratio.” Periodic payments can be changed or terminated butAnnuity payments can”t be changed or terminated.
Hope this helps.
Jim

Taxation of Periodic Payments

This section explains how the periodic payments you receive under a pension or annuity plan are taxed under the General Rule. Periodic payments are amounts paid at regular intervals (such as weekly, monthly, or yearly) for a period of time greater than one year (such as for 15 years or for life). These payments are also known as amounts received as an annuity.

If you receive an amount from your plan that is a nonperiodic payment (amount not received as an annuity), see Taxation of Nonperiodic Payments in Publication 575.
In general, you can recover your net cost of the pension or annuity tax free over the period you are to receive the payments. The amount of each payment that is more than the part that represents your net cost is taxable. Under the General Rule, the part of each annuity payment that represents your net cost is in the same proportion that your investment in the contract is to your expected return. These terms are explained in the following discussions.
2006-05-08 17:47, By: Jim, IP: [70.184.1.35]

L2: Taxable Amount Not DeterminedJim
Problem is we are both looking at the same Pub 939 provision and coming up with two different conclusions. Mine is that once a payment qualifies as “periodic” and is therefore paid as an annuity, there is nothing that separates it from any other form of annuity payment. Periodic = annuity payment = general rule Pub 939. Non periodic = not received as an annuity = Pub 575 = no exclusion rule.
I think you are agreeing that the SEPP payment does meet the periodic payment definition because of the conditions of meeting 72t, BUT then you are concluding that while it is paid as an annuity, since the payments are revocable, that for exclusion ratio purposes it should be treated as payments NOT paid as an annuity, but as a systematic withdrawal program. I am not seeing that statedin any particular publication or in the code. Perhaps a PLR is needed….but I can”t afford the 9 grand. :)2006-05-08 19:18, By: Alan S., IP: [24.116.165.157]

L2: Taxable Amount Not DeterminedGood morning Alan. First off let me apologize for the large block letters of your name in my last post. After I copied and pasted the section from Pub 939 into the reply section, then moved up to write my short message, the large block letters were there and I couldn”t figure out how to change them. When I typed my message it went to normal type. I still don”t know what happened but that”sthe situation. I was also in a time crunch.
I do not agree with your equation that “periodic payments” equal “annuity payments.” “Periodic Payments,” not associated with 72(q) or 72(t),may be random in amount and timing. You may take periodic payments from an annuity contract that has not been annuitized the same way you take periodic payments from a mutual fund or stock account. The dividing line between annuities and other types of investments is the ability to “annuitize” the annuity and turn it into a stream of income.
When an annuity is “annuitized,” and let”s stay with the non-qualified contract in this post, the contract owner exchanges the total value in the account for a “settlement option.” The “settlement option” may be a “Period Certain” for a specific number of years like 10 or 15, “Single Life” which lasts for the life of the annuitant and then the insurance company gets the remainder when he / she dies,or “Joint and Survivor” which combines “Single Life” withsome period of time or forthe life of the named beneficiary or joint annuitant.
When a contract is “annuitized” this action creates an “annuity start date” and payments from the contract are called “annuity payments.” Per Pub 575, distributions before the “annuity start date” are taxed as income up to the cost basis, and distributions after the “annuity start date” are eligible for the “exclusion ratio.” Here is a section of Pub 575 that addresses this situation:
If your annuity is under a nonqualified plan (including a contract you bought directly from the issuer), the amount withdrawn is allocated first to earnings (the taxable part) and then to your cost (the tax-free part). However, if you bought your annuity contract before August 14, 1982, a different allocation applies to the investment before that date and the earnings on that investment. To the extent the amount withdrawn does not exceed that investment and earnings, it is allocated first to your cost (the tax-free part) and then to earnings (the taxable part).
Every annuity company I have ever dealt with, and that goes back to 1993 for me, all distributions from the contract are coded as taxable unless the contract has been annuitized. I have not dealt with any annuity contracts issued before August 14, 1982.
I can”t give you the Tax Code sites for all of this but GFW and TheBadger or some other CPA can.
Jim2006-05-09 09:41, By: Jim, IP: [70.184.1.35]

L2: Taxable Amount Not Determined Many, many thanks…..This discussion has been most enlightening and educational.I feel like I need to go back and re-read all of my materials again. It almost sounds like pub”s 939 and 575 contradict one another? Like I said….. have to go back and do all that reading again.My bottom line concern is this – – if the Insurance co. was wrong to change the coding in box 2b, shouldn”t I try to get them to correct their mistake and, subsequent to that, shouldn”t I then submit an amended tax-return to the IRS while there”s still time?Some particulars about our situation:- Annuity contract has NOT been annuitized.- Wife has NOT reached age 59 1/2 yet.- Even though the SEPP has been going for several years, we are still withdrawing the ”profit” part of the annuity – – i.e., all of the SEPP payments have NOT lowered the account balance to equal or lower than the initial amount originally invested yet, and probably won”t for the foreseeable future (unless the market completely toiletizes, which is always a possibility).On the several occasions I have had where it was necessary to talk to the Insurance co. on the phone, I could never find anybody who was reassuring enough to satisfy me that they knew more about the tax code than I did, unfortunately. In particular, nonqualified annuities seem to be relegated to a particular tax hell – – regular ”qualified” annuities are confusing enogh, but it”s even more so with non-qualified types (at least that”s the way it seems to me).Again, a million thanks for the invaluable input and insight. I can”t tell you how much I appreciate it……….Best regardsBoyd 92006-05-09 12:44, By: Boyd 9, IP: [70.237.230.195]

L2: Taxable Amount Not DeterminedHello Boyd 9:
This discussion has been most enlightening and educational.
Yep … sometimes we get on a roll around here.I feel like I need to go back and re-read all of my materials again. It almost sounds like pub”s 939 and 575 contradict one another? Like I said….. have to go back and do all that reading again.
I don”t think 939 and 575 comflict each other, rather some of the terms sound like they should be saying the same thing when they don”t. For example, “annuity income” (annuitized)is not “income from an annuity” (non-annuitized).My bottom line concern is this – – if the Insurance co. was wrong to change the coding in box 2b, shouldn”t I try to get them to correct their mistake and, subsequent to that, shouldn”t I then submit an amended tax-return to the IRS while there”s still time?
Get with your tax advisor / CPA about the amended tax return. Talk with the insurance company about the code for your 1099-R, and keep going up the chain until you get to someone with enough experience and “horsepower” to make something happen. If this fails then use Form 5329 to explain the exception.Some particulars about our situation:- Annuity contract has NOT been annuitized.- Wife has NOT reached age 59 1/2 yet.- Even though the SEPP has been going for several years, we are still withdrawing the ”profit” part of the annuity – – i.e., all of the SEPP payments have NOT lowered the account balance to equal or lower than the initial amount originally invested yet, and probably won”t for the foreseeable future (unless the market completely toiletizes, which is always a possibility).
With this additional information it sounds like all of your wife”s distributions are taxable as ordinary income. Here again, check with your tax advisor.On the several occasions I have had where it was necessary to talk to the Insurance co. on the phone, I could never find anybody who was reassuring enough to satisfy me that they knew more about the tax code than I did, unfortunately. In particular, nonqualified annuities seem to be relegated to a particular tax hell – – regular ”qualified” annuities are confusing enogh, but it”s even more so with non-qualified types (at least that”s the way it seems to me).
It”s possible the people at the insurance company do know as much or more than you about the tax aspects of your situation, but since they are not in the tax business, and since their liability (E&O) insurance doesn”t cover giving tax advise, they will give you a “shrugged shoulder” response. Don”t get mad at them because you are asking questions they are not in any position to answer for you. Once you understand the nuiances of Qualified and Non-qualified annuities, it”s really pretty straight forward … not necessarily the clearest but not really conflicting.Again, a million thanks for the invaluable input and insight. I can”t tell you how much I appreciate it……….Best regardsBoyd 9
Good luck. Jim2006-05-09 15:23, By: Jim, IP: [70.184.1.35]

L2: Taxable Amount Not DeterminedJim,
I appreciate your patience on this issue. Obviously, due to ambiguous IRS Pubs and even parts of Sec 72 of the IRS code, I have been swimming uphill against industry practices, which concur with your opinion and that of Gfw.
With some more research, I have come to the conclusion that the crux of this issue boils down to the definition of “annuity” for purposes of being able to apply the exclusion ratio. It seems that the “annuity” must be an irrevocable agreement with the insurer to periodically pay out the actuarial value of the contract which of course varies per the options (life, term certain, fixed term etc.). These other distribution patterns including SEPPs are not irrevocable and can be aborted at any time. So it turns out that the”periodic” vrs non periodic nature of the payment stream is immaterial, since you could get periodic payments for several years under a SEPP or a systematic withdrawal, and the earnings would still be taxed first.
In other words, being paid as an annuity does not get you the exclusion ratio, apparently because you are not contractually bound to the insurer to complete the payout, as the payout pattern is revocable by the annuitant.
For Boyd, this issue is more than a technical analysis of the code, because he is looking a acceleration of taxes vrs deferring them to well after the SEPP has terminated. Unfortuneately, if he knows the investment amount in the contract including the original 1035, and what has previously been paid out and taxed, he could easily determine how much remains to be fully taxed before the payments become return of investment. As such, probably no point in debating the issue further with the insurer. The matter of penalty can be handled with the 5329.

2006-05-09 18:01, By: Alan S., IP: [24.116.165.157]

L2: Taxable Amount Not Determined To quote the computer from ”2001 A Space Odyssey” – – – Dave, I think my mind is going!!!OK, let me see if I”ve got this straight…….1) Since my wife is taking income from an annuity (i.e., making w/d”s from an annuity that has NOT been annuitized yet), even tho” those w/d”s are in the form of a series of substantially equal periodic payments, the rules from publication 575 apply (and NOT those from pub 939) when figuring the taxable amount of the w/d”s because the annuity has NOT BEEN ANNUITIZED YET……..2) The insurance co. was (certainly/very likely/possibly) wrong to check the box in 2b, ”taxable amount not determined,” because this is primarily only for those contracts that HAVE BEEN annuitized, and my wife”s has NOT.3) OK, now onto IRS form 5329. Now, let me see if I”ve got this right. The reason my wife doesn”t owe the 10% penalty on her early w/d”s is because she”s making a series of substantially equal periodic payments according to IRS regs and rules, and the issue of whether the contract has or has not been annuitized yet doesn”t really matter as far as form 5329 is concerned……….Do I have this right so far??? (Just checking)……Now, to quote Alan S.Unfortuneately, if he knows the investment amount in the contract including the original 1035, and what has previously been paid out and taxed, he could easily determine how much remains to be fully taxed before the payments become return of investment. As such, probably no point in debating the issue further with the insurer. The matter of penalty can be handled with the 5329.Yes, I have all this info at my fingertips. I am a packrat by nature and have a record of EVERY transaction that ever took place, since day 1 back in 1992. Not only that, in order to track our investment returns, I entered EVERY transaction into Quicken as well (and still do to this day).Does this also mean that IF a mistake was made by the insurance co., that I only need file the info on next year”s form 5329 instead of having to file 2 amended returns? I would, of course, vastly prefer the former to the latter………Again, I can”t thank all involved in this discussion enough, you”ve been a tremendous help!Boyd 9P.S. A Million thanks also, for making this site accessible (I”m using Firefox) to Mac users finally!!!2006-05-09 21:46, By: Boyd 9, IP: [70.237.230.195]

L2: Taxable Amount Not DeterminedBoyd,
Yes, your summary agrees with what I think is the consensus, including my losing a little more respect for IRS publications in the process. Jim will probably post if I am overlooking something.
Not totally sure I follow your last comment about amended returns. Is this because you may have included an incorrect of taxable income in a prior year? Remember, that the taxable income amount has nothing to do with the validity of the SEPP plan or the penalty waiver you will apparently need to claim on a 5329 every year that the 1099R comes out with a “1” code in Box 7. Once they start using a 1, you will probably have to use the 5329 every year the SEPP is maintained.
As for the full taxation, at least it”s not double taxation. Eventually she will have been taxed on all the investment income in the annuity, and after that happens, further distributions will be tax free except for new gains that may accrue each year. Good luck.
Alan
2006-05-09 23:19, By: Alan S., IP: [24.116.165.157]

L2: Taxable Amount Not DeterminedAlan & Boyd, I think you both have got it now, and I appreciate having this discussion with you. I think we have laid out some issues which confound and perplex a large number of people, even those in the business. Let me toss out a few final thoughts and an example.
According to Webster”s Dictionary, “annuity” means “an amount payable annually.” Of course you can split this up into monthly, quarterly, etc. If you have a sum of money and exchange it with an insurance company for an “immediate annuity” orthe “amount payable annually,” you irrevocably lose control of the money in exchange for a stream of income with a particular “annuity settlement option” discussed earlier. With this arrangement, since the money will have some nominal growth, each annual payment will include a portion of growth and a portion of “return of premium.” The “return of premium” portion is the part that is tax-free and the insurance company determines the amount by using the “exclusion ratio” in their calculations. So you would expect to get a Form 1099-Rindicating “Total Distribution Amount” and “Taxable Amount.”
Most folks havea “Deferred Annuity” wherebythey are taking systematic withdrawals,and Boyd your wife is in this category. The 72(q) / SEPP simply gets her out of the 10% early withdrawal penalty, so I won”t address that aspect anymore. Sincewithdrawals from a deferred annuity areNOT irrevocable, it is not an “annuity” by the definition above, and all income distributions above the cost basis is taxable as ordinary income.
Now for my example. Assume Boyd”s wife invested $100,000 into a deferred annuity in 1992,it grew to $250,000 in 1999 and thenshe did the 1035 exchange to another company”s deferred annuity. In 2001 she started the SEPP distributions FROM THE ANNUITYbut not “as an annuity.” Since the contract was issued afterAugust 14, 1982, then by IRS rule,andmost probablydriven by Congressional Statute,all distributions are considered income until she begins distributingfrom the original $100,000 investment which is her “cost basis.”
Boyd, you have told us the value of her contract is and has always beengreater than her original investment, so the distributions are ordinary income. If you have excluded any of her distributions from income in the past then I think you might need to start amending returns. But this is a tax question and that”s not my specialty so I can”t make a definite determination. Please see your tax advisor / CPA / EA / Tax Attorney as applicable.
Jim2006-05-10 08:55, By: Jim, IP: [70.184.1.35]

L2: Taxable Amount Not Determined JimI think you”ve hit the nail on the head, esp in re your last comment.The insurance co.”s (seemingly erroneous) decision to check box 2b got me started down a path of errors in terms of figuring the taxable amount for the IRS – – when it now seems, with the benefit of hindsight and this most valuable discussion forum – – that never should”ve needed figuring to begin with.I would rather have my teeth drilled by Ray Charles than get into amending tax returns, but, it looks like that is what the correct thing to do is from where things stand right now.Perhaps the first step will be to present a copy of this discussion to the insurance co. and ask them to prepare some amended 1099-R”s.Many, many thanks for giving me the opportunity to discuss some of the questions and problems that have been bugging me……. if not for this forum, I doubt I would have ever gotten to the bottom of it…….Best regardsBoyd 92006-05-10 21:30, By: Boyd 9, IP: [70.237.230.195]