What it means
An annuity payment can contain both a return of net cost and a taxable balance. The General Rule provides a method for separating them in applicable situations.
Publication 939 supplies definitions, calculations, and tables supporting that method. The IRS's December 2025 introduction distinguishes the General Rule from the Simplified Method, which is discussed in Publication 575 and applies in other circumstances.
Plan qualification, the annuity starting date, and other conditions can affect which method is required, so similar payment patterns do not let the taxpayer freely choose whichever method produces a preferred result. Establish those facts before copying an example calculation.
The investment in the contract and expected return are technical inputs. Net cost is not necessarily the account's current market value, and expected return is not merely a personal forecast of investment performance.
Applicable rules and tables determine how the calculation is constructed. A percentage-based exclusion allocates part of payments to cost recovery under the relevant method.
That does not mean the excluded amount continues without regard to all later conditions. The contract and recovery rules need to be followed through the payment history.
The publication's scope excludes several related topics. It refers IRA distribution treatment to Publication 590-B and other pension or annuity matters to Publication 575.
A common retirement label is not sufficient to select the correct guide. Timing and historical conditions need special care because older starting dates can carry particular treatment, so keep records of when payments began and any prior valid method choice.
Managers helping retirees can organise contracts, payment statements, contribution history, and prior calculations, and a new spreadsheet should not silently replace a treatment that needs continuity. Publication 939 explains the method, but personal tax review establishes whether it applies and which inputs are correct, so do not infer eligibility from the fact that an insurer or pension provider uses the word annuity.
In practice
Real-world examples.
Example
A fictional retiree receives payments from a commercial annuity. Her adviser checks whether the General Rule applies and establishes the investment in the contract. The current account balance is not copied into the net-cost field without review.
Example
Two retirees receive similar monthly amounts from different arrangements. One requires a different calculation method from the other. Equal payment size does not prove equal tax-free portions or permission to use the same worksheet.
Example
A family reconstructs an older annuity's records after changing preparers. The adviser requests the starting date and prior method information. The calculation is not restarted as though every past payment and valid choice were irrelevant.
Formula
Calculation
A simplified exclusion-ratio illustration divides established investment in the contract by the applicable expected return. Multiplying an eligible payment by that ratio illustrates a tax-free component, subject to the complete rules.
Suppose fictional inputs are $60,000 and $150,000. The illustrative ratio is $60,000 / $150,000 = 40%. Applied to a $10,000 payment under the stated assumptions, it produces a $4,000 component and a $6,000 balance.
These chosen values do not establish the expected-return calculation, eligibility, or later recovery limits for an actual contract. The method's definitions and tables must be applied before the arithmetic can support a real tax result.Case study
Seen in the real world.
This fictional case follows a retired manager who buys a commercial annuity and later receives a regular payment stream. Her first budget assumes every payment is fully taxable because it arrives from an investment provider. A tax review uses Publication 939 to identify whether the General Rule applies. The adviser obtains the contract, starting date, net-cost records, and required expected-return inputs instead of using a generic percentage from another retiree's experience.
The resulting calculation is recorded with its method and supporting assumptions. Past and future payments are tracked so the cost-recovery history remains clear, and related questions outside the guide's scope are referred elsewhere. The manager's cash budget becomes more accurate, but no one treats the guide as a guarantee of returns or a universal exemption. Its value is a specific tax method used only after applicability and evidence are established.
Watch out
Common mistakes.
- Applying the General Rule to every retirement payment without checking plan type, starting date, and required method.
- Substituting current market value or a personal return forecast for the method's defined investment and expected-return inputs.
- Ignoring previous treatment or recovery history when transferring the calculation to a new spreadsheet or preparer.
Questions
People also ask.
Is this the same as Publication 575?
No. Publication 939 explains the General Rule, while Publication 575 covers other pension and annuity questions, including the Simplified Method.
Can I choose whichever method gives less tax?
Not freely. Eligibility and method requirements depend on the relevant facts and provisions; certain historical choices have their own rules.
Does an annuity label prove the guide applies?
No. Identify the actual arrangement and applicable method before using its ratio or tables.
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