526 / What is the tax treatment of dividends where annuity values are paid in installments or as a life income?

Dividends received before the annuity start date or the first date that an amount is received as an annuity, whichever is later, are subtracted from the consideration paid (i.e., the cost basis) of the annuity and are not taxable. If the investment in the contract is reduced all the way to $0, any further dividends received become taxable. Notably, the reduction in the investment in the contract as dividends are reduced applies both for determining the taxation of the dividends themselves, and also the investment in the contract for the purposes of determining the exclusion ratio if the contract is subsequently annuitized.¹