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4 Ways to Get Out of an Annuity

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Annuities can provide guaranteed income for retirement and are a good fit for some people. However, at some point, you may decide you no longer want or need an annuity you’ve purchased. If buyer’s remorse has you wondering if it’s possible to recover your investment, it’s important to understand that it might be possible. Here are four ways to get out of an annuity if it no longer fits your financial plan.

A financial advisor can help you reach your retirement goals by creating and adjusting a financial plan. 

How to Get Out of an Annuity

There are several reasons for wanting to get out of an annuity. For example, you might be able to invest elsewhere with fewer fees or put the money into an account that offers more favorable tax treatment. Or you might simply feel that you don’t need an additional stream of income for retirement after all.

Whatever your reason for wanting to get rid of an annuity, you may have more than one avenue for doing so. Here’s what you need to know about your options — both the good and the bad — before trying to dissolve an annuity contract.

1. “Free Look” Provision 

If your annuity is a recent investment, you may be able to get out of it during the contract’s free-look period. This is essentially a window of time in which you can test-drive the annuity to make sure you’re comfortable with keeping it.

If you decide that you no longer want the annuity within the set time frame, then you can simply cancel the contract without incurring a surrender charge from the insurance company. Think of the free-look period as a get-out-of-jail-free card – but with a crucial caveat. Most insurers limit the time frame to 10 to 30 days after signing the contract. If that window of time has already closed for you, you’ll have to consider another option.

2. Return of Premium Rider 

Similar to life insurance offerings, annuity contracts can also include a return of premium rider. This type of add-on specifies that whatever premiums you’ve paid can be returned to you at any time, which effectively ends the annuity contract. The catch, of course, is that adding this and other riders to your contract usually means paying an extra fee.

If you have a return of premium option, know that you’ll only be able to get back what you’ve put in — you can’t cash in on any of the investment growth from your annuity. This is important because if you’ve had it for a while, the value of the annuity might have grown quite significantly. In this case, the convenience of getting out of your annuity should be weighed against missing out on the extra cash from the investment.

3. 1035 Exchange

SmartAsset: Ways to Get Out of an Annuity

If your main motivation for wanting to get out of an annuity is that you simply don’t like the terms, you may be able to roll it over into a new annuity, an option that may be particularly appealing if your annuity has a significant gain. The IRS allows investors to make what’s called a 1035 exchange, in which you swap one investment for another similar one without triggering a tax penalty.

For example, you might want to switch from a variable annuity, which has a varied rate of return, to a fixed annuity that offers a guaranteed interest rate. Ordinarily, taking money out of an annuity would mean paying income taxes on the growth or principal, depending on whether it’s a qualified or non-qualified annuity.

A 1035 exchange allows you to continue to defer paying income taxes on your annuity investment. One thing to note, however, is that you’re still responsible for paying a surrender charge or similar penalty to the insurance company if your contract includes one.

Also keep in mind that by exchanging one annuity for another, you might be giving up certain features or add-ons, such as an enhanced death benefit. Additionally, when you start a new annuity contract you’re also restarting the clock on the surrender period. That means should you want to withdraw money again or make another annuity exchange, you may end up paying this fee all over again.

4. Cashing Out

Cashing out an annuity is just what it sounds like: You receive a lump sum of cash from the annuity. This is similar to cashing out a permanent life insurance policy that has accrued cash value.

Pulling cash out of the annuity and terminating the contract might sound appealing if you have another use for the money or an annuity no longer fits your income needs. However, as with a 1035 exchange, check to see if you’ll have to pony up a hefty surrender charge to the insurance company, which could make cashing out now not worth it.

If you don’t want to pay a surrender fee, look into whether you can take out money on an annual basis (subject to a certain limit.) Some annuities will allow you to withdraw a set percentage from the contract each year without the surrender charge coming into play since you’re not cashing it out completely.

Reasons You May Want to Get Out of an Annuity

Getting out of annuity shouldn’t be done without proper motivation and planning. There are several reasons why someone may want to get out of an annuity, including:

  1. High fees and expenses: Many annuities come with high administrative costs, mortality and expense fees, surrender charges, and investment management fees that can eat into your returns.
  2. Limited liquidity: Annuities often have surrender periods during which you’ll face hefty penalties for withdrawing your money. If you need access to funds for an emergency or investment opportunity, this can be a major drawback.
  3. Better investment opportunities: If market conditions or your financial goals change, you may find that other investment options (such as stocks, mutual funds or real estate) offer better growth potential or lower costs.
  4. Tax considerations: Annuity withdrawals are taxed as ordinary income, which may result in a higher tax liability than if the funds were invested in a lower-taxed vehicle such as long-term capital gains investments.
  5. Estate Planning Concerns: If your annuity does not have favorable death benefits, your heirs may receive little to no inheritance after taxes and fees. Some investors prefer to move assets into more flexible estate planning tools.
  6. Changing Financial Needs: If your financial situation has changed due to retirement, inheritance, or other life events, you may no longer need the annuity for guaranteed income.
  7. Underperformance: If the annuity’s returns are lower than expected, and you could achieve better returns elsewhere, you might consider cashing out or transferring the funds.
  8. Company Stability Concerns: If the insurance company issuing the annuity is financially unstable or has poor credit ratings, you may want to exit before the company experiences financial trouble.

If you’re considering getting out of an annuity, it’s important to evaluate surrender charges, tax implications, and alternative investment options before making a final decision. Consulting a financial advisor can help ensure you make the best choice for your situation.

Bottom Line

SmartAsset: Ways to Get Out of an Annuity

Before deciding to exit an annuity, take the time to evaluate your reasons and how it would line up with your financial goals. There may be multiple ways to withdraw or restructure your annuity, but each option carries its own implications, including fees, tax consequences and potential loss of benefits. Consulting with a financial professional can help you identify the most strategic approach based on your unique situation, ensuring that your decision aligns with both your short-term needs and long-term financial security.

Retirement Planning Tips

  • Consider with a financial advisor if you want to get out of an annuity or adjust your retirement plan. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
  • Annuities are just one option when it comes to potential streams of retirement income. Social Security benefits, a 401(k), an employee pension plan, IRAs and taxable investment accounts can also fit into the picture. Looking at each source of income individually can help you reshape your investment plan and projected retirement budget if needed.

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