TurboTaxCaro has this advice:
You will not receive a tax document, but calculating the exclusion ratio is pretty simple to do. Basically, you're trying to determine how much of your payment is principal and how much is interest. Follow the steps below to determine how much of your income (principal) is not reported as taxable income. You will need to know the following:
- Principal after-tax investment
- Monthly annuity payment
- How many annuity payments you will receive (if your secondary market annuity does not have a set number of payments, then use the IRS' published life expectancy/actuarial tables)
The IRS says, "Your annuity starting date determines the total amount of annuity income that you can exclude from income over the years."
For example, let's say a person age 65 has a life expectancy of 20 years or 240 months. If an annuity is purchased with $100,000 after-tax dollars, then $100,000 divided by 240 means $416.67 of each annuity payment would be non-taxable. If the annuity payment received is $700 per month, the exclusion ratio would be 416.67 divided by 700, resulting in a ratio of 59.5 percent. Therefore 59.5% of the payment is excluded from taxes.
Report this income as ordinary income. Insurance companies report annuity payments on a 1099-R. You can create a substitute 1099-R in the Retirement Plans and Social Security section in TurboTax to report this income.
