I often see references to the fact that IRA withdrawals and variable annuity withdrawals are taxed as ordinary income even if the money represents capital gains from investments inside the IRA or variable annuity. This is generally stated matter of factly without comment or objection. My question is, are not capital gains capital gains? Why should they be called anything else just because they are inside a tax deferred instrument. There would be no problem keeping track of what was a capital gain and what wasn't within the IRA or variable annuity. So what is the rationale for penalizing tax deferred investments by pretending it is all ordinary income?
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