- 1). Find your life expectancy from the time you began payments. The IRS actually makes the job a little easier when you take annuity payments by creating a method for taxes that allows for a level amount of interest each year. It all starts with finding your life expectancy from the date of the first payment. See the Resource section for a life expectancy calculator.
- 2). Subtract off the number of months that have passed since your last birthday. The life expectancy calculator bases its numbers at your last birthday; to be accurate you need to subtract the number of months that have elapsed from the answer you found.
- 3). Multiply the number of years times 12. If you receive the payments monthly, this is the number of payments the insurance company expects to pay if you live to full life expectancy. If you take quarterly payments, divide the number by 3. Divide it by 2 if you take semi annual payments. Use just the number of years for an annual payment.
- 4). Locate the amount of money you receive each payment period and multiply it by the answer you found in step 3. You'll receive this amount of money from the annuity if you live to your life expectancy.
- 5). See what the principle balance was when you decided to annuitize the payment. Divide this number by the total payments you expect to receive. This gives you the exclusion ratio, the amount you don't put on your taxes.
- 6). Multiply the exclusion ratio times the amount you received in payments from the insurance company. A man that just turned 70 and annuitizes has a life expectancy of 13 years, or 156 months. If he has $50,000 in an annuity and receives $400 a month, then annually he'd expect $4800. Multiply this number by 13 for the life expectancy. Your answer is $62,400. Divide the $50,000 by $63,400 and your answer is .80128. When you multiply that number by his annual payment of $4800, your answer is $3846.18. You exclude this amount from your taxes
- 7). Subtract the excluded amount from the annual payment. In the example above, you exclude $3846.14. When you subtract that number from the $4800 received, the man pays taxes on 953.86.
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