What is the surrender fee on an annuity?

The Sting of Surrender: Understanding Annuity Surrender Fees

Annuities can be a valuable tool for retirement planning, offering tax-deferred growth and the potential for a guaranteed income stream. However, before diving in, it’s crucial to understand the fine print, particularly the potential impact of surrender fees. These fees, charged when you withdraw funds from your annuity during a specific period, can significantly diminish your returns and impact your long-term financial goals.

Think of an annuity as a carefully nurtured garden. You plant your seeds (your initial investment), and over time, you expect them to grow. Surrender fees are like a fence built around that garden. If you try to harvest your crops (withdraw your money) before a certain date, you’ll encounter that fence, and cutting through it (paying the fee) will cost you a portion of your yield.

What are Annuity Surrender Fees?

Simply put, surrender fees are penalties you pay for withdrawing money from your annuity before the end of the “surrender period.” This period, which typically lasts for six to eight years at the beginning of the contract, is designed to protect the insurance company that issues the annuity. The company uses your investment to make long-term projections, and early withdrawals can disrupt those calculations.

How Do Surrender Fees Work?

Surrender fees are usually calculated as a percentage of the amount you’re withdrawing. This percentage typically decreases over time, gradually phasing out as the surrender period nears its end. For example, a common surrender charge schedule might look like this:

• Year 1: 7%
• Year 2: 6%
• Year 3: 5%
• Year 4: 4%
• Year 5: 3%
• Year 6: 2%
• Year 7: 1%
• Year 8: 0%

In this scenario, if you withdrew $10,000 in the first year, you’d pay a surrender fee of $700.

The Impact on Your Payout:

The impact of surrender fees can be significant, especially during the initial years of the contract. They directly reduce the amount you receive upon withdrawal, diminishing both your original principal and any potential returns you’ve accumulated. This can be particularly problematic if you face unexpected financial emergencies and need to access your funds.

Beyond Variable Annuities:

While surrender fees are most commonly associated with variable annuities, it’s important to note that other types of annuities, like fixed annuities and fixed indexed annuities, can also have surrender charges. Always carefully review the contract details, regardless of the type of annuity you’re considering.

Before You Invest: Consider the Surrender Period

Before committing to an annuity, thoroughly assess your financial situation and carefully consider the length of the surrender period. Ask yourself these questions:

• Will I likely need access to these funds within the next six to eight years?
• Am I comfortable locking up this portion of my retirement savings for an extended period?
• Have I fully understood the surrender charge schedule outlined in the contract?

Alternatives to Minimize Risk:

If you’re concerned about the potential impact of surrender fees, consider these alternatives:

• Partial Withdrawals: Some annuities allow for penalty-free withdrawals of a certain percentage (usually 10%) of the account value each year.
• Laddering Annuities: Invest in multiple annuities with staggered surrender periods. This allows you to access portions of your savings over time without incurring significant penalties.
• Exploring Alternatives: Consider other retirement savings options, such as traditional or Roth IRAs, that offer greater flexibility and liquidity.

In conclusion, understanding annuity surrender fees is crucial for making informed investment decisions. By carefully considering the surrender period and exploring alternative options, you can protect your retirement savings and ensure that your annuity aligns with your long-term financial goals.