Surrendering an Annuity

Up until two years ago, I would have told you to never surrender an annuity early. Withdrawal charges or surrender penalties almost never made sense and it would be too hard to make up losses in a new contract. Opportunistic salespeople still took advantage of hopeful contract owners. I saw plenty of contracts with high rates replaced by a contract with lower rates only because a bonus looked good and was the right kind of bait to get a naive consumer to bite.

This was only possible because of market value adjustments which is a positive or negative moves based on changes in interest rates during the contract term. When rates started dropping in 2010, previously purchased contracts had a positive market value adjustment that completely eliminated surrender fees in many cases. The only problem is that the new contract extended the surrender term and decreased growth potential or interest earnings. It looked good in the short run but never made sense long-term.

Things have changed now with higher rates than existed a little more than two years ago. Underperforming annuities can be swapped for higher income or growth potential but you have to be more clear with your goals because there is a tradeoff for doing so. First of all, insurance companies who are about to get the money don’t like to see you taking losses to get out of a current investment. That goes for annuity surrender charges, CD penalties, devalued bonds, or even contingent deferred sales charges (CDSC) on mutual funds. All penalties for getting out of a current investment must be disclosed as part of the suitability review like I talked about last week.

If the receiving company deems the losses to be too high then they will deny the transaction. This happens a lot for agents that don’t understand the rules so that’s what I plan to explain. I’ve learned over the past two years that the industry standard for an acceptable replacement is a 5% net loss. If your surrender charges are 5% or less then you can move the money. If a bonus offsets the charge then it needs to result in a net loss of 5% or less, just the same. Bonuses can be a net positive to accumulation values or income benefits so a bonus annuity is frequently but not always the only way to get out of an old one and into a new one.

Those are the objective facts and when you do this, your options are limited. It most likely has to be a fixed indexed annuity that you move into, regardless of what contract you are leaving. Indexed annuities have bonuses for accumulation or income that make it much more likely that a company will accept the replacement. Subjective variables, or your own personal feelings on the matter are the only thing left to consider.

If you are simply trying to maximize income on a certain date then it’s an easy choice. Which contract pays more income?

If it’s an accumulation contract then you are extending your surrender period and substantially increasing surrender penalties. You pay a surrender fee and start all over again with new surrender charges that are even higher.

It really comes down to you deciding whether you do in fact want an annuity. Those with lackluster accumulation are faced with deciding whether the annuity experience is worthwhile. The market has performed exceptionally well as of late and so lots of people are thinking it’s better to get back in at the top. Maybe it keeps going and maybe it doesn’t. Since income is an objective comparison I’m going to share a few examples of how you might evaluate the possibility of replacing an accumulation annuity.

Rob was the first client of Annuity Straight Talk and we’ve done a lot of business and developed a close relationship over the past 15 years. He bought an indexed annuity from me in 2020 when rates were really low. Average performance was around 2% but rates had risen substantially since the purchase and he’s a conservative investor. To keep diversification among safe assets he decided to purchase a new fixed-indexed annuity. The 12% bonus gave him a net positive account value plus the new contract has twice the growth potential. He had seven years remaining on the previous surrender term and would extend that to ten years with the new contract. That didn’t bother him because there was no plan to touch the money for retirement. He just wanted safety and decent growth potential.

Jim bought the same annuity at about the same time as Rob, while experiencing the same type of performance. His financial goals required a yield closer to 5% and he wasn’t doing it. Again, a new annuity would result in a net positive account value with higher growth potential and a better chance at meeting his goals so he decided to swap to the better contract. When the contract was issued he noticed that the surrender value was 10% lower than the previous contract’s surrender value. This made him uncomfortable so we free-looked the new policy and have decided to make the most of what he has going forward.

I met Marty just a couple of weeks ago. He has a variable annuity with high fees and market risk that he’d rather not have. With a 7% surrender charge remaining, a bonus on an indexed annuity is about his only option to increase cash value and get protected growth in the future. But he’d talked to several people and every single one had a different idea for the new product and company. I certainly thought my proposal was the best but I first needed to ask whether he does in fact want to use an annuity. He paused when I asked and really thought about it for a few seconds. At the end of our call, I truly got the feeling that he’d rather surrender the current contract and choose a different investment altogether. That’s perfectly fine as I’d rather not push him into something that he may not even want.

Having the ability to surrender an annuity and get something better allows you to really solidify your goals. Several people have surrendered income contracts because they have realized after a few years that they don’t even need income. After a few years of experience with an annuity, you’ll know whether you want to continue doing the same thing or take the opportunity to pursue something else. Agents are always going to be greedy and there will always be someone who thinks you should switch. Right now it’s ok in many cases but that will not always stand. Make sure you seek the advice of someone who really can give you all the options.

If you are currently getting the hard pitch then please get on my calendar. My only goal is to help you find or even keep products that align with your best interests.

Continue Reading:

Surrendering of Allianz Products

Fidelity – Investment Companies Now Recommend Annuities

Fidelity Annuity Recommendation

Podcast Episode: Surrendering An Annuity

Last Updated on August 20, 2024 by Bryan Anderson