He Bought a $200,000 Annuity With Savings. His Brother Bought the Same One Inside His IRA, but Only One of Them Pays Tax on the Whole Check

Funding a $200,000 annuity with after-tax savings triggers an exclusion ratio, shielding part of each payment from taxes until full basis is recovered.

IRA-funded annuities offer zero extra tax advantage since every payment is fully taxable ordinary income, meaning buyers pay only for the lifetime income guarantee.

Both annuity types raise income measures that increase Social Security taxation and Medicare surcharges, but the IRA brother faces greater exposure because his full payment counts as income.

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Two brothers walk into the same insurance office in the same week. Each writes a $200,000 check and buys the same immediate annuity from the same carrier. Each will receive the same monthly payment for life. The only difference is where the money came from. One brother funded the purchase from a taxable brokerage account he had been building for decades. The other funded it from a traditional IRA. When the checks start arriving, one brother pays tax on every dollar he receives, and the other pays tax on only part of each payment for years.

This difference stems from which account the money came from, and it is one of the least understood decisions in retirement. Most buyers choose at the moment of purchase without really discussing what it means.

This matters more right now than it did a few years ago. Payout rates on new annuity contracts move with long-term interest rates, and the 10-year Treasury yield sits at 4.78% as of early September 2026, near a 52-week high of 4.79%. Set that against the FDIC national average 12-month CD rate of 1.71%, and the appeal of locking in a lifetime income stream is clear.

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The brother who paid with taxable savings already paid income tax on that money the year he earned it. The insurance company knows this, and the tax code treats his premium as basis, meaning principal that has already been taxed and should not be taxed again on the way out. When payments begin, the insurer applies an exclusion ratio. A portion of each monthly check is treated as a nontaxable return of his own principal, and the remainder is treated as taxable earnings.