Many people wonder what happens to their lottery winnings should they die before receiving it in full. Any sensible person can have this concern since death can occur at any time. Will all your winnings go to the government? What about your family? These are some of the lingering questions.
If you die with a lottery annuity, the lottery pays the money to your estate. And, if you don’t have a legitimate list of beneficiaries, the court decides on who the insurance needs to pay. However, the annuitant’s spouse can resume ownership of the account and avoid paying any immediate tax.
Read on for detailed information on who is entitled to inherit your lottery annuity, what they are entailed to get, and other essential information on how your lottery annuity can benefit you and your loved ones without any problem if you prematurely die.
What Happens if You Die With a Lottery Annuity?
Other than giving you numerous tax advantages, the annuity option also protects your money. You do not need to worry about the possibility of losing your winnings in case anything happens.
The law states that if you are a lottery winner and pass on before the lottery makes the last payment, the money goes to your estate. However, if you had not made the plan before, the lottery seeks the court’s guidance. They pay the people that the court has determined to be your legitimate and authorized beneficiaries.
Who Inherits Your Annuity?
The good news is that annuities are incredibly simple to manage after the owner’s death, given that the beneficiary designation is easy to interpret.
The initial application often has the death beneficiary. If the owner does not change this before death, the listed person or persons automatically inherit the annuity. This, however, must be confirmed by the annuity company.
A lottery annuity that a parent, spouse, or another member of the family holds can be willed to anyone named beneficiary.
Why Must You Follow the Right Process to Choose the Beneficiary?
The fact that the lottery annuity owner must follow the proper procedure when selecting the recipient cannot be underestimated. If you fail to do this, you give the court the right to decide when you are dead, and their choice may not serve your interest.
This process, also known as probate, is too time-consuming and costly. In some cases, the heirs might be required to forfeit the assets to the insurance company.
If you assume that your annuity has to go through your spouse and ignore you to take the appropriate action, you also expose your family and loved ones to probate.
Many contracts treat spouse and non-spouse beneficiaries differently. If you ascertain that the legal agreement gives your wife or husband the discretion to choose what to do with the annuity after you pass on, you have nothing to worry about at all.
The spouse can choose to become the new annuitant and select the beneficiaries. However, for non-spouses, they can only become beneficiaries. Thus, all they have is access to the designated funds.
When you are choosing beneficiaries, the law allows you to designate humans or organizations. It is vital that you consider the impact of the age of the named beneficiaries. This does not apply to organizations. If you choose a minor, you need to have in mind that they lack the legal right to access the inherited annuity until they become adults.
Choose the Right Beneficiary
It is important to note that you are the only one who can designate a beneficiary.
If the contract does not allow you to rename an irrevocable beneficiary, you also have the right to change beneficiaries. Besides, you can choose a contingent beneficiary to ensure you have someone on file which can receive the lottery annuity in case the primary beneficiary dies while you are still alive.
Opt for Trust
Other than the beneficiaries, trust can also receive the owner’s annuity. However, these types of payments must be paid out within five years and are not necessarily based on the owner’s life expectancy.
What Is the Beneficiary Entitled to After the Annuitant Dies?
According to a professional asset management advisor in Dallas, for you to determine the amount that you, as beneficiary, receive, you need to consider the phase of the annuity at which the death occurred. The two main stages are accumulation and distribution stages.
During the accumulation phase, you use the annuity contract to save your money to earn interest from it over time. If the annuitant dies during this period, the accumulated resources go to the designated beneficiaries. However, if a trust is involved, the estate’s manager determines the amount of money that each involved party qualifies to receive.
If the annuitant intends to take cash outflows while alive, we say the annuity is in the distribution phase. You cannot reverse your decision to annuitize your assets in return for cash flows. The type of annuity that you choose significantly determines what your beneficiaries receive. The two standard options are the life and fixed-period annuities, but there are also some variations of the same. Read more about the variations in detail.
If the beneficiary has a fixed-period lottery annuity, they are assured of getting regular payments for a specific period. If the owner dies before receiving the money, the designated beneficiary receives outstanding benefits.
Some people also opt for a fixed-amount annuity to earn a specific amount for life. They can also get paid until the benefits are exhausted.
If the annuitant exhausts the accounts and outlives the fixed period, they are unlikely to get anything unless the plan provides for a special package for the designated beneficiaries.
With life annuity, the annuitant is guaranteed payments during his lifetime. And the amount is based on several factors, such as the account balance, interest rates, and the annuitant’s age. If the death occurs during the accumulation phase, the beneficiaries get the lump-sum payment.
However, in case it is a joint-life annuity, both the annuitant and the spouse are guaranteed payment. If the two die early, the third beneficiary can also receive the cash.
Life With Period-Certain Annuity
This variation combines the main features of life and fixed-period annuities. It guarantees the annuitant payment for life as well as the opportunity to choose a fixed period of payment. The contract pays the beneficiary the amount of money that remains if the person dies earlier than anticipated.
Annuity Benefit Options
The beneficiaries can also reap from the benefit options. For example, under the fixed-period annuity, if the annuitant dies after exhausting the accounts and outliving the fixed period, the beneficiaries may get no payment. Nevertheless, that may not be the case if you have some of the following annuity benefit options:
- Standard Death Benefit
The standard death benefit has the least value, and you do not need to pay an extra fee to get it. They depend on the terms of different types of annuities, as we have seen above. The amount that the beneficiaries get is determined by the date when the insurance receives evidence of the annuitant’s death, the money they have received, and the outstanding amount.
- Return of Premium
This option has a higher value. It involves subtracting withdrawals and fees from the sum of your contributions to finding the inherited amount.
- Stepped-Up Benefit Rider
When the contract is created, you add a provision to cater for the interest of your beneficiaries. Often, people pay an annual fee over the policy. The rider ensures that the beneficiaries get paid a substantial amount of money.
- Additional Riders
Annuitants can pay for an extra rider. This increases the value of the investment, and it ensures that the insurance pays more benefits.
Payout Options for Beneficiary
Since the death benefit of annuities that are not annuitized is the accumulation of the policy’s value, they have unique payout options. If you are the beneficiary, you can expect to receive the payment in three different ways, and these are:
- Lump-Sum Distribution
A lump-sum distribution is the best option for recipients who prefer to get the amount that has grown by during the deferral years till the time of death of the lottery annuitant in a single payment. It is also known as blow-out payment, and the beneficiary can use it to make a significant improvement in life within a short time.
- Nonqualified-Stretch Provision
If the owner included a non-qualified stretch provision in the contract, the insurance pays the beneficiary based on the accumulation value at the time of the death as well as the beneficiary’s life expectancy at the time of the start of the payments. Some deferred annuities can create this kind of payment stream that can serve the beneficiary for life.
- 5-Year Pay
Some deferred lottery annuities also allow you to be paid the death benefit over five years to reduce the tax burden. The Five Year Rule requires the accumulated cash to be fully distributed by the 5th anniversary of the person’s death. As a beneficiary, you have the right to withdraw small amounts from time to time within this period.
With these typical inherited lottery annuity payout options, as a beneficiary, you have enough time to plan and use the benefit well when you receive it.
Inheritance Annuity Tax
Lottery annuity beneficiaries owe the government an income tax amounting to the difference between the principal invested and the annuity’s value at the time of the owner’s death. The payout option that you choose determines when you have to pay the owed tax. For example, if you want a lump sum, you may be required to immediately settle the taxes.
Like the tax situation for annuitants, the beneficiary does not owe taxes until the time of withdrawal. However, the essential thing that will determine whether your money is held in a qualified or non-qualified annuity account.
Qualified Annuity Taxation
If you fund your annuity with untaxed money, then it is a qualified annuity. Payments from the lottery annuity are considered as taxable income.
Non-Qualified Annuity Taxation
Non-qualified annuities refer to the assets that have been bought using after-tax funds. Only the earnings require tax payments.
The exclusion ratio is what determines the amount of tax that you pay. This ratio works by helping beneficiaries to establish the exact amount of the investment that is taxable earnings and the already-taxed principal.
To calculate it, you need to consider the precise principal used to buy the lottery annuity. Additionally, this ration finds the life expectancy of the account. This means that as the owners of the accounts, you may not pay tax if you live within the actuarial life expectancy. However, if you live longer than that, all the payments you receive after that are taxed.
The concept behind the exclusion ratio is to spread principal withdrawals over the life expectancy of the annuitant. The rest of the money is deemed to be from taxable earnings.
Annuity Withdrawal Taxation
How you withdraw the funds and the timing also influences your tax bill. In some cases, if you withdraw before you turn 59 1/2, the tax authority is likely to demand a 10% penalty on the taxable portion of your annuity.
Annuity Payout Taxation
The monthly non-qualified annuity payment consists of the tax-free portion and the taxable balance. The return on the net cost is deemed to be tax-free, while the earnings are not.
The income payments, therefore, must be divided to determine the appropriate tax exclusions.
As a beneficiary of the inherited annuity taxation, you need to apply the same rules. Your lottery winnings are taxed before you invest it, which makes it the exclusion amount.
Are Inherited Annuities Taxable?
If you inherit a lottery annuity, you may need to pay tax depending on your relationship with the deceased and the relevant type of distribution. For example, if your father left you the annuity, you should pay taxes on the interest at the ordinary income tax rate. However, the premium is tax-free.
If the beneficiary is the spouse of the deceased, the ownership of the account can be changed. Once that happens, the contract continues as it did when the original owner was alive, which means it maintains the tax-deferred status. The new annuitant does not owe the government any immediate taxes.
With an immediate annuity, the beneficiary has the right to start receiving the money immediately. This option often limits people’s ability to choose a better way to obtain the distribution. Although, deferred annuity gives the beneficiary the right to defer taking withdrawals. When you opt for this, the taxes on your gains also get postponed until you start receiving the income.
For fixed-income annuities, the beneficiary pays a predetermined tax amount. From this, you can see that the type of annuity determines how much you pay as tax. However, the payout distribution option can also influence how much you have to pay to the government.
The tax liability and distribution options are:
As we have already established, when you opt for the lump-sum distribution alternative, you receive all the money. The lottery amount of the capital is safe from taxation. Nonetheless, the government will calculate the revenue that it has generated, and tax is based on your ordinary rate.
When you choose to annuitize the policy over your lifetime, you may not know at the beginning how much tax you need to pay. However, your insurance company can give you an estimation based on your predetermined life expectancy. As you receive the fixed, regular income, the amount that remains with the insurance continues to make a profit.
Insurance companies use a complicated formula that considers the death of individuals younger than you and the overall life expectancy of people in your region. Your financial advisor or attorney can help you to approximate the tax that you may owe the state over the years. The beauty of this option is that you spread the tax burden over a long period.
The Five Year Rule
Under the five-year lottery annuity, you pay tax for five years. If you choose, you can spread the tax over the entire period by withdrawing small amounts throughout the duration. The law allows the beneficiary to withdraw the total cash in the fifth year and pay all the tax on your interests on the same day.
Should the annuitant die, the lottery pays the money according to the plans he or she had made.
Lottery annuities offer numerous benefits. That’s why it is a popular financial instrument among lottery winners and other individuals, such as retirees and recipients of a structured settlement.
It ensures that these people can earn a predictable amount of money regularly over a period of time. Obviously, some individuals also think that annuities are complicated, which may be valid to some extent.