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Wendy Reed
Wendy Reed, Enrolled Agent
Category: Tax
Satisfied Customers: 3345
Experience:  15+ years tax preparation and tax advice.
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What does it mean that I must "recover my investment in contract

Customer Question

What does it mean that I must "recover my 'investment in contract' or Cost of Annuity using the Simplified Method" on my pension check? My first check January 1st showed a deduction of $33. Why? I am a retired teacher as of June 2011 and just don't understand what is happening? This is my money that I earned and the pension is now being penalized?
Submitted: 2 years ago.
Category: Tax
Expert:  Jax Tax replied 2 years ago.

Jax Tax : Welcome to JA.
Jax Tax : The recovery of cost using the simplified method means that the amount the plan cost you post tax over the years will be paid to you tax free.
Jax Tax : It is paid to under a simplified method meaning that.your cost will be evenly be repaid over a certain number of years.
Jax Tax : This portion will not be taxable.
Jax Tax : As for the $33 deduction, I have no idea. It could be anything. Federal and State tax withholdings (if not you should request they withhold tax) or health insurance or anything else.
Jax Tax : Mayber it is not a reduction but just showing the removal of the $33 (your cost) from the gross before determining the net taxable portion.
Jax Tax : You pension is taxable beyond the post tax cost or investment over the years.
Expert:  Jax Tax replied 2 years ago.
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Expert:  Jax Tax replied 2 years ago.
Once you are online, post and allow me a couple minutes to be alerted and log in. We will pick up from there if you have further questions.
Customer: replied 2 years ago.
I still do not understand. I never had an annuity my first years of teaching back in 1971-74 plus I only made like $7000 a year. STRS claims this Cost of Annuity occurred in those years. The total is for $15,702. Now where would that come from?

Please explain what this "investment in contract" or Cost of Annuity is exactly. I had no extra money back then to contribute to my account.

How can taxes increase on such a small amount?

Where will I receive this Annuity? To do this AFTER a person retires at age 62 for 25 years is wrong--I'll be dead before "tax free" money can be "enjoyed."

What is the Internal Revenue Code that "requires" this be done when no information was ever given to me? How unfair to be slapped with this now.
Expert:  Jax Tax replied 2 years ago.
The amount could be the amount the state contributed for you. This is very likely.
Customer: replied 2 years ago.
If the State contributed this amount for me, why just me? No one I know who has retired has received this amount . The State just doesn't "contribute" money to anyone.

Please answer all my questions.
Expert:  Jax Tax replied 2 years ago.
Just so it is clear. They are not taking $33 from you. They are simply removing it from the amount reported as taxable. You are still getting it. Perharps the post tax portion was rolled.over from another plan? Perhaps you contributed more than could be deducted in a year and it was not contributed pre tax. I don't think the reason matters. It is in your favor.
One of many circumstances occurred to create this post tax portion of the plan. You are looking at close to $20k tax free over the next 25 years. If I were you, I would talk to them about restructuring to get the ta free portion first.
Customer: replied 2 years ago.
Again, why me? And where is MY current due pension money going? So instead of paying me the $15,702 in a check tax free, they are taking MY money earned for my pension and setting it aside tax free for 25 years? Again, that is money I will never see. Few live to their 80's.

Where would the $33 be going? How am I going to get it? The point is I am not "getting" this supposed annuity in cash. The IRS is simply taking MY earned money and setting it aside tax free? Fair?
Expert:  Jax Tax replied 2 years ago.
We need to straighten this out. Is this a pension or is this an annuity? How was it funded? I need to know what kind of account this is. Your income could be going to pay current premiums if we are talking about a life insurance annuity and not a pension.
Do you currently get monthly funds? What does the $33 on the statement say it is for? What is the gross. And what is the net pay?
Customer: replied 2 years ago.
The $33 was removed from my monthly pension from the STRS. It was funded by my working for the state of Ohio for 32 years. It is NOT an insurance annuity or an annuity i paid into. This is my current monthly pension of gross $3464 monthly before taxes and health care which brings the net to 2788. Not a lot of money to have more deductions made to it.

Why touch my pension if this Cost of Annuity is something owed to me tax free? NOT from my pension!
Expert:  Jax Tax replied 2 years ago.
OK. Here is what I believe it is. At some point you were receiving some type of income that would have prevented you from receiving your pension or a portion. But, you did receive it. Now the state is charging you back over a period of years. Check the link here. I believe page 3 shows the disqualifying income. http://www.google.com/url?sa=t&source=web&cd=1&ved=0CDEQqwMoBjAA&url=http%3A%2F%2Fwww.strsoh.org%2Fpdfs%2Fbrochures%2F51-104.pdf&ei=GM4AT5vrN-KvsAK0vNiqAQ&usg=AFQjCNFgMuPlXsVbKzGA5051lzY0HVZqZA
Customer: replied 2 years ago.
NO. The only income I ever received was from teaching period. I just retired June 1st and have received my monthly pension checks in the same amount for 6 months. Now suddenly there is a change and the invention of this cost of annuity for 1971-74. It makes no sense to any one I have talked to. Nothing has prevented me from receiving my pension.

And what do you mean that the state is charging me back?? Charging me for what???

None of your answers have clarified anything for me.
Expert:  Wendy Reed replied 2 years ago.

Hello,

The state is not charging you for anything. An investment or cost of annuity is a good thing for you, because it means that part of each of your pension checks is tax free. When you "recover" your cost using the simplified method (which is required) a portion of each check is tax free until the cost is reached. For example, lets round your cost to $15,000. A table is used to determine the number of years that you can recover the cost. Lets use 20 years as an example---this is 240 months. So 15,000 divided by 240 = $62.50 of your gross pension amount of 3464 that is tax free. The remaining $3401.50 is taxable.

 

Now, the above is an example of how you will determine at tax time how much of your pension is subject to taxation. (See page 12-13 in this publication for the IRS discussion of cost recovery under the Simplified method): http://www.irs.gov/pub/irs-pdf/p575.pdf

 

Here is the STRS information on cost recovery: https://www.strsoh.org/retirees/1b.html

 

The $33 deduction is a mystery, because we don't know what the deduction is...Can you look at the stub that accompanies your check or direct deposit info and tell me exactly what deductions are there, what the explanation is (for example, FEDWITH, or INS, etc.) and the amount? Then I could help you determine exactly what the extra $33 is for.

 

It is possible that the $33 is additional federal tax being withheld. I suspect that what may have happened is that they determined whatever taxable amount they were withholding tax on previously was incorrect, and they refigured it and withheld more federal tax. If it is more tax than you owe on the income, you will get it back in a refund. If you do not want them to withhold Fed. tax, you can opt out of it, but you will be responsible for your tax liability when you file a tax return, or you could pay quarterly estimated payments.

 

 

Please let me know how else I can assist you with this, and if you need more clarification or information.

 

Customer: replied 2 years ago.
Why only me? I have talked to others and NO ONE including my husband has ever heard of this investment or cost of annuity. NO ONE has had additional taxes withheld with their January check and I make less than most. Can the IRS show me where I paid extra taxes to qualify for any of this? In the 70's teachers' salaries were horrible and that's where all this is coming from.

So you are saying the IRS is paying me the cost of annuity of $15000 by my not paying taxes for 25 years on part of my pension? The $33 deduction has nothing to do with the Cost of Annuity? Why don't they pay the annuity amount in full at one time if it is technically extra money I have paid?
Expert:  Wendy Reed replied 2 years ago.
I fear that I am not explaining myself correctly. I explained what cost of annuity is, it is actually a good thing because it means that you have an investment of your own money in your pension which means that LESS of your pension is taxable. If you know other persons who don't have a cost in their annuity, then their pension is fully taxable, yours is not.

Beyond this I can't really tell you anything, as I have asked you for additional information but you have not provided it. I need #'s from your check stub....If I could see the check stub it would help, (scrubbed of any personal info such as name and SS#) but if you cannot scan it and attach it as a file then could you just transcribe the information for pay and deduction columns?
Customer: replied 2 years ago.
A friend just called that the $33 decrease is from an increase in health care costs from $250 to $289 a month so that must be the reason for the $33. Teachers do not get pay stubs; pensions are put in our accounts by direct deposit. So...the reason here must be health care costs.

Thank you for your patience. Your explanations were clearer than the previous answers. One final question is where did this cost of annuity come from? I never made great money as a teacher to invest or contribute. Who would have that information? And none of that will be realized until tax time? Will it say this on my W2 form at the end of the year?
Expert:  Wendy Reed replied 2 years ago.
Oh that is interesting!!! Even if you get direct deposit, you are still entitled to view a paystub or "advice" which details your deductions. The company may have an online account that you can enroll in to see these details.

No surprise in the health care cost increase---mine has more than doubled in the last year.

As for cost of annuity....I don't know where it came from but remember that it is good news for you because it means you are paying less tax. 1970's were a long time ago and the only ones who would have the pension records are either you or the state....I would send a certified letter to STRS and politely ask for the origin of your cost of annuity. They have the number ($15702) they have to know where it came from.

Some possibilities are: in the 70s some of your pay was withheld as a mandatory contribution to the pension----OR, that STRS "imputed" income on the portions of pension that they contributed, and you did pay extra tax on it through your paychecks.

Hope you are satisfied with our service and recommend us to your friends and family!
Wendy Reed, Enrolled Agent
Category: Tax
Satisfied Customers: 3345
Experience: 15+ years tax preparation and tax advice.
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