How are benefit payments for a non-qualified annuity treated for tax purposes?

Benefit payments for a non-qualified annuity are considered always taxable because they consist of both principal (the amount you invested) and earnings (the growth of that investment). Non-qualified annuities are funded with after-tax dollars, meaning you've already paid taxes on the money you used to purchase the annuity. As you receive distributions from the annuity, you'll only pay tax on the earnings portion, which is included as ordinary income in the year you receive it. The principal amount you invested is not taxed again since it was made with after-tax funds.

This tax treatment differs significantly from qualified annuities, where tax advantages are more pronounced, allowing contributions to be made with pre-tax income, and taxes are typically deferred until withdrawal. Understanding this distinction is vital for financial planning regarding annuity distributions and tax liabilities.