The IRS, in Revenue Procedure 2011-38, significantly eased the restrictions regarding when a partial transfer between annuity contracts will be treated as a tax-free exchange under Internal Revenue Code ("IRC") § 1035. The original restrictions were imposed by Revenue Procedure 2008-24, which set forth the circumstances under which a direct transfer of a portion of the cash surrender value of an existing annuity contract for a second annuity contract would be treated by the IRS as a tax-free exchange.

Under Rev. Proc. 2011-38:

  1. The period of time in which cash can be withdrawn from either contract after a partial transfer has been significantly shortened from 12 months beginning on the date of the transfer to 180 days.
  2. Annuity payments that satisfy the newly enacted partial annuitization rule of IRC § 72(a)(2) will not be treated as a distribution from either the old or new contract.
  3. The requirement that one of the enumerated exceptions in IRC § 72(q) (exceptions from the 10% premature withdrawal penalty tax) be met is eliminated.
  4. The automatic characterization of a transfer as a distribution taxable under IRC § 72(e) if it did not qualify as a tax-free exchange under IRC § 1035 is replaced with an analysis by the IRS, using general tax principles, to determine the substance, and thus the tax treatment of, the transaction.

Revenue Procedure 2011-38 is effective for transfers that are completed on or after October 24, 2011.