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What Are Surrender Charges in Annuities?

Stan Haithcock
April 13, 2023
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Today's topic and question is, what are surrender charges in annuities? Not all annuities have surrender charges, but the ones that do, and we'll talk about both. Still, for the ones that do, it is a way for the annuity company to make back their money that they've paid out in commissions, administrative fees, and business expenses if you pivot during the contract and try to get all your money back. It's similar to a CD. CDs have surrendered charges, and some mutual funds have surrender charges. It's just a way for companies to protect themselves from some of the guarantees and some of the commitments that they make in order to lock in the guarantees that you want. It's not some heinous evil, let's stick it to them type thing. It's business, and it is what it is. But let's go through that.

Surrender Charges

Okay, so let's talk about surrender charges. Some types don't have surrender charges, and some annuities do. Let's talk about those and get those out of the way. Single Premium Immediate Annuities are pension annuities that start income between now, 30 days within a year, short term, and it's an income now product. No surrender charges. That's an irrevocable contract. That's going to pay you an income stream for the rest of your life. You're ripping the knob off a water faucet, and the faucet water's coming; in this case, it's income. Same thing with a Deferred Income Annuity. There are no surrender charges on that as well. It's a future pension plan that is irrevocable. Same with a Qualified Longevity Annuity Contract, also called a QLAC. Those are also contracts that are annuitized and irrevocable. You must ensure you allocate your money proportionally and understand that limitation entirely.

Deferred Annuities

Deferred Annuities are the ones that have surrender charges. I'm talking about the primary ones, Variable Annuities, Fixed Indexed Annuities, and Multi-Year Guarantee Annuities, which are like CD products. All of those lock in for a specific period of time, and they're not all the same. Some are longer than the others, and some are as short as one, two, and three years. But typically, what you see with surrender charges is a declining percentage over time. Let me give you an example, and this is just a broad example because all carriers and products are different in the paperwork, so the agents should be showing you that. If I'm your agent, I will show you that. Let's say you buy a 10-year Indexed Annuity, and typically the surrender charges will be 10%, 9%, 8%, or 7%, declining all the way down to when you get to the final year; there are no surrender charges to get your money out. Now people say, well, that's tough. What if I need money? Typically, with most Deferred Annuities, there's a provision inside of each of them that allows you to take out some percentage without penalty. Depending on the contract, most Deferred Annuities are five to 10% annually, and you can take that out without penalty. Then there are some Multi-Year Guaranteed Annuities that don't allow that. Once again, everything's not the same with annuities. I know everyone says they're all the same, or I hate them, or they're all expensive, and that's garbage. Or there are surrender charges in all annuities, but there are not. I just told you about SPIAs, DIAs, and QLACs that don't even have surrender charges. You should look at surrender charges from the standpoint of how long you're going to lock in the money. If 10 years sounds too long, you need to look at a shorter term.

Bad Chicken Dinner Seminars

Unfortunately, most agents, especially in the bad chicken dinner seminar circuit pushing Indexed Annuities, are long-term, like a 10-year term. I'm not saying that's bad, I'm just saying that's the product they push. There are shorter-term Indexed Annuities that you can also look at and evaluate. Same with Multi-Year Guarantee Annuities. You could buy a 10-year Multi-Year Guarantee Annuity fixed rate, or you could buy a five-year or a three-year, and sometimes they're as short as one or two years. It just depends on what your goals are. Always ask questions about the duration; how long do I want to lock the money in? And if you're in your seventies, eighties, nineties, not nineties, but seventies and eighties, you don't need to be locking money in long term. There's an argument for the youngsters in the fifties and sixties that you don't need to be locking in long term as well because if interest rates move, you do want to capture those interest rate movements.

I'll give you an example. Here's a story. Someone called me and said, "Hey, I want to buy a 10-year Fixed- Rate Annuity." And I think at that point in time he was talking to me, I think it was like a 4%. And I said, "Eh, I don't know if you want to do that. Why don't you just buy the five year?" I didn't feel comfortable with him locking in that long, just looking at the yield curve analysis, where the benefit is on the yield curve. In other words, in English, that means where does the benefit stop the longer I lock in? And in my opinion, at the time the person called me, it was five years. Five years was max. So, I convinced him to do a five-year product, and he's going to be very happy because within five years, we're going to be able to roll it to something better. Plus, I'm not a big fan of locking in long-term unless you have to.


I forgot to tell you this. Now, all annuity types, they pay commissions to the agents. So, they're built in and hidden from you, which I'm not sure that's good. It is what it is. You can argue about it, but that's for every agent, and if I'm your agent and I sell you an annuity, I'm going to get paid by the carrier. It's a net transaction to you, and you're going to see if you put in $100,000, you're going to see $100,000 to go to work. But I get a commission one time from the carrier. Now, how does that play into surrender charges? One of the reasons surrender charges are in place with Deferred Annuities is to pay back the company. See, they pay the agent the commission upfront. They have administrative costs upfront. So, with allotted Deferred Annuities, like a Fixed Indexed Annuity, the break-even point for the carrier is years down the road. If you buy a Fixed Indexed Annuity and it's a 10-year contract, in year three, you say, "Hey, I'm getting out. I'm out. I want to get out," and you have to pay the surrender charges to get out. Why? Because the carrier has to recoup all of those upfront costs. Again, it's not some evil plot, it's just business. That's the reason that the surrender charges are higher at the front end of the contract and lower at the back end of the contract.

All right, we've made it to the end. Aren't you happy? One thing I want you to do is to take a look at a video I did. It's interesting, not controversial, but factual, on how insurance companies make money on Fixed Indexed Annuities, which many people want to know because it's a controversial topic and a popular product. I would encourage you to take a look at that. And don't hesitate to ask for a quote, or if you want to contact us, you certainly can do that by booking a call with me.

Never forget to live in reality, not the dream, with annuities and contractual guarantees! You can use our calculators, get all six of my books for free, and most importantly book a call with me so we can discuss what works best for your specific situation.

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