If you purchased a variable annuity and found it is no longer the right fit for you, this article will explain how to exchange a variable annuity without becoming subject to surrender taxes or fees.
Surrendering an Annuity
If you are unhappy with your variable annuity, you may decide you want to surrender it. But it is important you are aware of the consequences. The first issue is a surrender charge. Most variable annuities have a surrender fee of 7-10% of your policy value. Second, if you are under 59 ½ the IRS imposes a 10% early withdrawal penalty. Third, you must pay income tax on any profits. This could be up to 37%. As you can see, surrendering your variable annuity can be expensive.
The IRS tax code allows you to exchange your variable annuity for another free of penalties and taxes. This feature is a 1035 exchange. To do this type of exchange your funds must pass directly from the old annuity to the new one. This means you cannot surrender your policy and give the check to the new company. Additionally, for a 1035 exchange to be valid, the owner and annuitant must remain the same on the new policy.
The main benefit of a 1035 exchange is that it allows you to transfer an unproductive variable annuity for a productive one without any fees or taxes. Most people exchange their variable annuity for a fixed deferred annuity or a fixed index annuity. New annuities can offer up to 10% bonuses, more investment options, lower expenses, as well as enhanced living and death benefits.
When to Avoid an Exchange
There may be certain situations where a 1035 exchange would not be appropriate. First, you would not want to exchange your current annuity if the new annuity’s bonuses are less than the fees they charge. Second, you would also not want to exchange your policy if the fees on the new policy are higher. Third, depending on the current economic state, lower interest rates may make your old annuity a better choice than a new one.
Questions to Ask
When meeting with an insurance agent to exchange a variable annuity there are some questions you should ask to make sure you are getting the best deal possible. This would include such questions as:
- What would be the total cost for making an exchange?
- What is the annual cost of additional features? Can you further explain the specific purpose such features serve?
- How long is the surrender period and what are the surrender fees?
- What are my options for making penalty-free withdrawals?
Exchanging Your Annuity
If you need help navigating how to exchange a variable annuity, meet with a qualified insurance agent and tax planner who can help you.
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