If you withdraw funds before your annuity starting date and your annuity is under a qualified retirement plan, a ratable part of the amount withdrawn is tax free. The tax-free part is based on the ratio of your cost (investment in the contract) to your account balance under the plan.

If your annuity is under a nonqualified plan (including a contract you bought directly from the issuer), the amount withdrawn is allocated first to earnings (the taxable part) and then to your cost (the tax-free part). However, if you bought your annuity contract before August 14, 1982, a different allocation applies to the investment before that date and the earnings on that investment. To the extent the amount withdrawn does not exceed that investment and earnings, it is allocated first to your cost (the tax-free part) and then to earnings (the taxable part).

If you withdraw funds (other than as an annuity) on or after your annuity starting date, the entire amount withdrawn is generally taxable.

The amount you receive in a full surrender of your annuity contract at any time is tax free to the extent of any cost that you have not previously recovered tax free. The rest is taxable.

For more information on the tax treatment of withdrawals, see Taxation of Nonperiodic Payments, later. If you withdraw funds from your annuity before you reach age 59, also see Tax on Early Distributions under Special Additional Taxes, later.

If you receive annuity payments under a variable annuity plan or contract, you recover your cost tax free under either the Simplified Method or the General Rule, as explained under Taxation of Periodic Payments, later. For a variable annuity paid under a qualified plan, you generally must use the Simplified Method. For a variable annuity paid under a nonqualified plan (including a contract you bought directly from the issuer), you must use a special computation under the General Rule. For more information, see Variable annuities in Publication 939 under Computation Under the General Rule.

Annuities: Variable annuitiesIf you receive a single-sum distribution from a variable annuity contract because of the death of the owner or annuitant, the distribution is generally taxable only to the extent it is more than the unrecovered cost of the contract. If you choose to receive an annuity, the payments are subject to tax as described above. If the contract provides a joint and survivor annuity and the primary annuitant had received annuity payments before death, you figure the tax-free part of annuity payments you receive as the survivor in the same way the primary annuitant did. See Survivors and Beneficiaries, later.

To find out if your plan is an eligible plan, check with your employer. The following plans are not eligible section 457 plans.

A nonresident alien is an individual who is not a citizen or a resident of the United States. Nonresident aliens are subject to mandatory U.S. tax withholding unless exempt under a tax treaty between the United States and their country of legal residency. A tax treaty exemption may reduce or eliminate tax withholding from railroad retirement benefits. See Tax withholding, later for more information.

If you are a nonresident alien and your tax withholding rate changed or your country of legal residence changed during the year, you may receive more than one Form RRB-1099-R. To determine your total benefits paid or repaid and total tax withheld for the year, you should add the amounts shown on all Forms RRB-1099-R you received for that year. For information on filing requirements for aliens, see Publication 519, U.S. Tax Guide for Aliens. For information on tax treaties between the United States and other countries that may reduce or eliminate U.S. tax on your benefits, see Publication 901, U.S. Tax Treaties.

For payments received under the first category, get Form W-4V, Voluntary Withholding Request, from the IRS and file it with the RRB to request or change your income tax withholding. For payments received under the second category, use Form RRB W-4P, Withholding Certificate for Railroad Retirement Payments, to elect, revoke, or change your income tax withholding. If you are a nonresident alien or a U.S. citizen living abroad, you should provide Form RRB-1001, Nonresident Questionnaire, to the RRB to furnish citizenship and residency information and to claim any treaty exemption from U.S. tax withholding.

To request an RRB form or to get help with questions about an RRB benefit, you should contact your nearest RRB field office if you reside in the United States (call 1-800-808-0772 for the nearest field office) or U.S. consulate/Embassy (if you reside outside the United States). You can visit the RRB on the Internet at www.rrb.gov.

The following discussion explains the items shown on Form RRB-1099-R. The amounts shown on this form are before any deduction for:

The amounts shown on this form are after any offset for:

The amounts shown on Form RRB-1099-R do not reflect any special rules, such as capital gain treatment or the special 10-year tax option for lump-sum payments, or tax-free rollovers. To determine if any of these rules apply to your benefits, see the discussions about them later.

Generally, amounts shown on your Form RRB-1099-R are considered a normal distribution. Use distribution code 7 if you are asked for a distribution code.

There are three copies of this form. Copy B is to be included with your income tax return if federal income tax is witheld. Copy C is for your own records. Copy 2 is filed with your state, city, or local income tax return, when required. See the illustrated Copy B (Form RRB-1099-R) above.

Form RRB-1099-R Annuities or Pensions by the Railroad Retirement Board 2005 Summary: This is an example of Form RRB-1099-R (2005) with these line items to be completed by the railroad retirement board with information regarding annuity and pension payments: 1. Claim number and Payee Code field 2. Recipient's Identification Number field Recipient's Name, Street Address, City, State, and ZIP Code field 3. Employee Contributions field 4. Contributory Amount Paid field 5. Vested Dual Benefit field 6. Supplemental Annuity field 7. Total Gross Paid field 8. Repayments field 9. Federal Income Tax Withheld field 10. Rate of Tax field 11. Country field 12. Medicare Premium Total field

If you had to repay any railroad retirement benefits that you had included in your income in an earlier year because at that time you thought you had an unrestricted right to it, you can deduct the amount you repaid in the year in which you repaid it.

If you repaid $3,000 or less in 2005, deduct it on Schedule A (Form 1040), line 22. The 2%-of-adjusted-gross-income limit applies to this deduction. You cannot take this deduction if you file Form 1040A.

Railroad retirement benefitsIf you repaid more than $3,000 in 2005, you can either take a deduction for the amount repaid on Schedule A (Form 1040), line 27 or you can take a credit against your tax. For more information, see Repayments in Publication 525.

You can choose not to have income tax withheld from retirement plan payments unless they are eligible rollover distributions. You can make this choice on Form W-4P Form W-4P for periodic and nonperiodic payments. This choice generally remains in effect until you revoke it.

The payer will ignore your choice not to have tax withheld if:

To choose not to have tax withheld, a U.S. citizen or resident must give the payer a home address in the United States or its possessions. Without that address, the payer must withhold tax. For example, the payer has to withhold tax if the recipient has provided a U.S. address for a nominee, trustee, or agent to whom the benefits are delivered, but has not provided his or her own U.S. home address.

If you do not give the payer a home address in the United States or its possessions, you can choose not to have tax withheld only if you certify to the payer that you are not a U.S. citizen, a U.S. resident alien, or someone who left the country to avoid tax. But if you so certify, you may be subject to the 30% flat rate withholding that applies to nonresident aliens. This 30% rate will not apply if you are exempt or subject to a reduced rate by treaty. For details, get Publication 519, U.S. Tax Guide for Aliens.

Unless you choose no withholding, your annuity or similar periodic payments (other than eligible rollover distributions) will be treated like wages for withholding purposes. Periodic payments are amounts paid at regular intervals (such as weekly, monthly, or yearly) for a period of time greater than one year (such as for 15 years or for life). You should give the payer a completed withholding certificate (Form W-4P or a similar form provided by the payer). If you do not, tax will be withheld as if you were married and claiming three withholding allowances.

Tax will be withheld as if you were single and were claiming no withholding allowances if:

You must file a new withholding certificate to change the amount of withholding.

Form W–4P: Withholding from retirement plan payments Withholding: 10% rate usedUnless you choose no withholding, the withholding rate for a nonperiodic distribution (a payment other than a periodic payment) that is not an eligible rollover distribution, is 10% of the distribution. You can also ask the payer to withhold an additional amount using Form W-4P. The part of any loan treated as a distribution (except an offset amount to repay the loan), explained later, is subject to withholding under this rule.

Rollovers: Direct rollover to another qualified planIf you receive an eligible rollover distribution, 20% of it generally will be withheld for income tax. You cannot choose not to have tax withheld from an eligible rollover distribution. However, tax will not be withheld if you have the plan administrator pay the eligible rollover distribution directly to another qualified plan or an IRA in a direct rollover. For more information about eligible rollover distributions, see Rollovers, later.

Your estimated tax is the total of your expected income tax, self-employment tax, and certain other taxes for the year, minus your expected credits and withheld tax. Generally, you must make estimated tax payments for 2006 if your estimated tax is $1,000 or more and you estimate that the total amount of income tax to be withheld will be less than the smaller of:

Distributions you receive that are based on your accumulated deductible voluntary employee contributions are generally fully taxable in the year distributed to you. Accumulated deductible voluntary employee contributions include net earnings on the contributions. If distributed as part of a lump sum, they do not qualify for the 10-year tax option or capital gain treatment.

If your annuity is paid under a qualified plan and your annuity starting date (defined earlier under Cost (Investment in the Contract)) is after July 1, 1986, and before November 19, 1996, you could have chosen to use either the Simplified Method or the General Rule. If your annuity starting date is before July 2, 1986, you use the General Rule unless your annuity qualified for the Three-Year Rule. If you used the Three-Year Rule (which was repealed for annuities starting after July 1, 1986), your annuity payments are now fully taxable.

Your annuity starting date determines the total amount of annuity payments that you can exclude from income over the years.

The annuity starting date is either the first day of the first period for which you receive an annuity payment under the contract or the date on which the obligation under the contract becomes fixed, whichever is later.

Net unrealized appreciation (NUA): Deferring tax onIf you receive a distribution of employer securities from a qualified retirement plan, you may be able to defer the tax on the net unrealized appreciation (NUA) in the securities. The NUA is the increase in the securities' value while they were in the trust. This tax deferral applies to distributions of the employer corporation's stocks, bonds, registered debentures, and debentures with interest coupons attached.

If the distribution is a lump-sum distribution, tax is deferred on all of the NUA unless you choose to include it in your income for the year of the distribution.

Distributions: Lump-sum Lump-sum distributionsA lump-sum distribution for this purpose is the distribution or payment of a plan participant's entire balance (within a single tax year) from all of the employer's qualified plans of one kind (pension, profit-sharing, or stock bonus plans), but only if paid:

If the distribution is not a lump-sum distribution, tax is deferred only on the NUA resulting from employee contributions other than deductible voluntary employee contributions.

The NUA on which tax is deferred should be shown in box 6 of the Form 1099-R you receive from the payer of the distribution.

When you sell or exchange employer securities with tax-deferred NUA, any gain is long-term capital gain up to the amount of the NUA. Any gain that is more than the NUA is long-term or short-term gain, depending on how long you held the securities after the distribution.

Enter the total amount of a nonperiodic distribution on Form 1040, line 16a, or Form 1040A, line 12a. Enter the taxable amount of the distribution on Form 1040, line 16b, or Form 1040A, line 12b. However, if you make a tax-free rollover or elect an optional method of figuring the tax on a lump-sum distribution, see How to report in the discussions of those tax treatments, later.

At least part of certain loans under a qualified employee plan, qualified employee annuity, tax-sheltered annuity (403(b) plan), or government plan is not treated as a distribution from the plan. This exception applies only to a loan that either:

If a loan qualifies for this exception, you must treat it as a nonperiodic distribution only to the extent that the loan, when added to the outstanding balances of all your loans from all plans of your employer (and certain related employers) exceeds the lesser of:

You must reduce the $50,000 amount if you already had an outstanding loan from the plan during the 1-year period ending the day before you took out the loan. The amount of the reduction is your highest outstanding loan balance during that period minus the outstanding balance on the date you took out the new loan. If this amount is zero or less, ignore it.

Form 1099-R: Loan treated as distribution from planIf your loan is treated as a distribution, you should receive a Form 1099-R showing code L in box 7.

Nonqualified plans: Loans treated as distributions fromIf your loan is treated as a distribution, you must reduce your investment in the contract to the extent that the distribution is tax free under the allocation rules for qualified plans explained earlier. Repayments of the loan increase your investment in the contract to the extent that the distribution is taxable under those rules.

If you receive a loan under a nonqualified plan other than a 403(b) plan, including a commercial annuity contract that you purchase directly from the issuer, you increase your investment in the contract to the extent that the distribution is taxable under the general allocation rule for nonqualified plans explained earlier. Repayments of the loan do not affect your investment in the contract. However, if the distribution is excepted from the general allocation rule (for example, because it is made under a contract entered into before August 14, 1982), you reduce your investment in the contract to the extent that the distribution is tax free and increase it for loan repayments to the extent that the distribution is taxable.

No gain or loss is recognized on an exchange of an annuity contract for another annuity contract if the insured or annuitant remains the same. However, if an annuity contract is exchanged for a life insurance or endowment contract, any gain due to interest accumulated on the contract is ordinary income.

If you make a tax-free exchange of an annuity contract for another annuity contract issued by a different company, the exchange will be shown on Form 1099-R with a code 6 in box 7. You need not report this on your tax return.

If you acquire an annuity contract in a tax-free exchange for another annuity contract, its date of purchase is the date you purchased the annuity you exchanged. This rule applies for determining if the annuity qualifies for exemption from the tax on early distributions as an immediate annuity.

If you receive a distribution as an alternate payee under a qualified domestic relations order (discussed earlier under General Information), you may be able to choose the optional tax computations for it. You can make this choice for a distribution that would be treated as a lump-sum distribution had it been received by your spouse or former spouse (the plan participant). However, for this purpose, the balance to your credit does not include any amount payable to the plan participant.

If you choose an optional tax computation for a distribution received as an alternate payee, this choice will not affect any election for distributions from your own plan.

One or all of the recipients of a lump-sum distribution can use the optional tax computations. See Multiple recipients of a lump-sum distribution in the instructions for Form 4972.

A separated employee's vested percentage in his or her retirement benefit may increase if he or she is rehired by the employer within 5 years following separation from service. This possibility does not prevent a distribution made before reemployment from qualifying as a lump-sum distribution. However, if the employee elected an optional method of figuring the tax on the distribution and his or her vested percentage in the previous retirement benefit increases after reemployment, the employee must recapture the tax saved. This is done by increasing the tax for the year in which the increase in vesting first occurs.

The following distributions do not qualify as lump-sum distributions for the capital gain treatment or 10-year tax option.