Many affluent individuals are attracted to offshore investing for its asset protection advantages. Assets held outside the U.S. are beyond the jurisdiction of U.S. courts, and foreign banks and governments typically have no interest in, or obligation to, honor judgments in U.S. courts. Annuities also provide another layer of asset protection, depending on the state. However, U.S. residents still need to be aware of how annuities are taxed so they can stay in compliance with U.S. tax law.
Annuity Taxation in General
Generally, annuities receive favorable treatment under the U.S. tax code. While premiums do not qualify for a tax deduction, except in retirement accounts, assets in annuities grow tax deferred for as long as they are left in the annuity. When the investor takes money out, the proceeds are taxed at ordinary income rates, minus a pro-rated credit for the investor's contributions.
Income Taxes on Offshore Investments
You cannot legally use offshore jurisdictions to avoid U.S. tax liability. While you can use a jurisdiction-based strategy to shield your assets from collection, even by the IRS, the tax code requires U.S. residents to declare income from whatever source derived. This includes any income received from assets offshore.
If you try to evade taxes by failing to declare income received from offshore annuities, or if you declare but fail to pay taxes, you could get charged with criminal tax evasion. This will involve interest on unpaid taxes, penalties, fines and even involve jail time. The IRS can seize other assets in the U.S., levy bank accounts and other retirement accounts, and garnish wages. In extreme cases, you can be sentenced to prison.
If a judge issues a court order directing you to transfer your annuity balance from another country, the U.S. is powerless to seize that annuity. However, if you refuse to do so, a judge can hold you in contempt of court for failure to transfer the assets, and hold you in prison until you transfer the funds and comply with the court order.
You could potentially be liable for taxes in the country in which your annuity is domiciled. Some countries have established tax treaties that exempt U.S. residents from having to pay taxes on money held offshore. Each foreign country has a different treaty. You should consult an experienced tax professional knowledgeable in offshore planning and the specific jurisdictions involved for guidance applicable to your situation.