The beneficiary must pay taxes on any income received from an inherited annuity. This tax is generally paid at the beneficiary's normal tax bracket, but large payout amounts can increase the beneficiary's income tax for that year.
Income tax only needs to be paid if the annuity is cashed out once it is inherited. Each annuity specifies the proper payout options, be it lump sum or payments over a period of years. Some annuities allow the beneficiary to continue the policy, receiving payments for the duration of the policy's term. In such cases, ordinary income tax is paid on the regular disbursements.