A non-qualified annuity is an annuity contract purchased with after-tax dollars outside of tax-advantaged retirement accounts such as IRAs or 401(k)s. Contributions to a non-qualified annuity are not tax-deductible, but earnings grow tax-deferred until withdrawn. When distributions occur, the gain portion is taxed as ordinary income, and the return of principal is non-taxable, typically following last-in, first-out (LIFO) rules for non-annuitized withdrawals. If the owner is under age 5912, a 10 percent penalty may apply to the taxable portion of withdrawals. Non-qualified annuities can be fixed, indexed, or variable and are often used to provide supplemental retirement income, principal protection, or lifetime payout options beyond what qualified plans allow. They also may be used for legacy planning, offering death benefits to beneficiaries.

In real-world planning, advisors recommend non-qualified annuities when clients have maximized contributions to qualified plans and still want additional tax-deferred savings or guaranteed income options. Suitability and best interest reviews focus on liquidity needs, surrender charges, and comparison to other investment vehicles. During retirement, distributions from non-qualified annuities are coordinated with Social Security, pensions, and withdrawals from qualified plans to manage tax brackets. Advisors explain that while gains are taxed as ordinary income, the ability to defer recognition can be valuable. For beneficiaries, non-qualified annuity death benefits retain the contract's tax-deferred character, but withdrawals are generally taxed as ordinary income to the extent of gain. Understanding non-qualified annuity rules helps advisors structure income strategies and legacy plans that balance tax efficiency with guarantees and flexibility.