What are the tax consequences of a withdrawal from a nonqualified annuity during the accumulation period?

The correct response accurately reflects the tax implications associated with withdrawals from a nonqualified annuity during the accumulation phase. When a withdrawal is made from a nonqualified annuity, the Internal Revenue Service (IRS) mandates that the earnings (or interest) accrued in the annuity are taxed first, before any of the principal amount. This means that when a withdrawal is taken, it consists initially of taxable gains, which are subject to income tax.

Additionally, under IRS regulations, if the annuity owner is under the age of 59 1/2 at the time of withdrawal, a 10% additional tax penalty may apply to the earnings portion of the withdrawal. This serves as a deterrent to early withdrawals from retirement accounts, including annuities, encouraging individuals to keep their retirement savings intact until they reach retirement age.

Thus, the explanation highlights that taxable interest is indeed withdrawn first, aligning perfectly with IRS rules governing nonqualified annuities, and the important aspect of the age penalty enriches the understanding of the overall tax consequences linked to such withdrawals. This knowledge is crucial for individuals managing nonqualified annuities, as it aids in financial planning and retirement strategies.