If you invest in a variable annuity, you can enjoy several tax benefits:
* Tax-free buildup. Any investment earnings won’t be taxed as long as they’re held within the annuity.
* Tax-free switches. You can move money from one equity subaccount to another without paying any tax.
Outside of an annuity, on the other hand, switching among mutual funds is a taxable event. That’s true even if you move from one fund to another within a mutual fund family.
* Tax-free exchanges. You can replace one annuity contract with another without owing tax.
* No capital gains distributions. Mutual fund investors owe tax when their fund passes through realized net gains, even if they didn’t participate in those profits. Annuities don’t pay out such gains.
There may be tax drawbacks, though. If you invest in a variable annuity, be sure to avoid withdrawals before age 59 1/2. Such distributions are usually subject to a 10 percent penalty tax, in addition to income tax.