Mg(x)Zn(1-x)O ternary alloy nanocrystals with hexagonal wurtzite structures were fabricated by using the sol-gel method. X-ray diffraction patterns, UV-vis absorption spectra, and photoluminescence spectra were used to characterize the structural and optical properties of the nanocrystals. For as-prepared nanocrystals, the band gap increases with increasing Mg content. Weak excitonic emission with strong deep-level emission related to oxygen vacancy and interface defects is observed in the photoluminescence spectra at room temperature. Thermal annealing in oxygen was used to decrease the number of defects and to improve the quality of the nanocrystals. In terms of XRD results, the grain sizes of nanocrystals increase with increasing annealing temperature and the lattice constants of alloy are smaller than those of pure ZnO. The band gap becomes narrower with increasing annealing temperature. For Mg(x)Zn(1-x)O nanocrystals (x=0.03-0.15) annealed at temperatures ranging from 500 to 1000 degrees C, intense near-band-edge (NBE) emissions and weak deep-level (DL) emissions are observed. Consequently, the quality of Mg(x)Zn(1-x)O nanocrystals can be improved by thermal annealing.