Withdrawing Money From an Annuity (Rules You Should Know)

You're likely familiar with annuities, the products offered by insurance companies that are commonly used to beef up financial retirement plans. Annuities offer some of the most powerful ways to secure your financial future.

They're popular because they're the only product out there that provides a guaranteed income after you stop working. But what about taking money out of an annuity? Once you put your money in, what are the rules for getting your money back out?

Annuities are not designed to be a short-term place to grow your money. If you’re thinking about cashing out an annuity early, you may face some financial penalties.

But there are some exceptions and ways you can take money out of an annuity before retirement without incurring penalties. In this article, we explain the rules around withdrawing money from your annuity. Plus, we cover how to cash out an annuity without facing steep fees.

A Quick Annuity Refresher

Before we get to the rules about taking money out of an annuity, let's do a quick refresher on what an annuity is. You can think of an annuity as a pension that you fund yourself. You fund an annuity by making a deposit to a life insurance company —either as a lump sum dollar amount or in monthly payments.

Later on, the insurer pays that money back to you, often after it's grown substantially.

There are many different types of annuities, each with unique features for people with different financial circumstances. How you withdraw money from your annuity will depend somewhat on what type it is.

Here’s a quick rundown of the different types of annuities. When selecting an annuity, you choose when you want to receive your payouts:

• Immediate annuities start paying you back soon after you buy them. They are typically best suited for those already in retirement or very close to it.
• Deferred annuities grow your money over time before paying it back to you. You choose a term over which your annuity accumulates interest. When the term expires, you have many choices, including entering a new guaranteed term, annuitization, and cashing out.

Annuities also let you choose how you want your money to grow:

• Fixed annuities provide a guaranteed minimum interest rate. With this annuity, you know the exact growth of your account value over the selected term. A fixed annuity is the simplest and safest type of annuity. All Canvas annuities are fixed annuities.
• Variable annuities pay a variable interest rate tied to stock market performance. These are usually invested into mutual funds and are much riskier than fixed annuities. Because you don't know how the market will perform, you don't know if your variable annuity will earn any money. It may even lose money.
• Fixed-indexed annuities are a hybrid of fixed and variable annuities. They pay an interest rate that is tied to the performance of your chosen market index, but they also have a fixed minimum interest rate—usually 0%. That means you'll never lose any of your initial premium, but you might not gain anything either.

You normally cannot withdraw money early from immediate annuities; once you hand over a lump sum to the insurance company, they will pay you back with a monthly stream of income for a period of time that you choose. Once selected, this cannot be changed. Because immediate annuities usually cannot be cashed out early, early withdrawal rules do not apply to them.

For most deferred annuities , including fixed, variable, and fixed index annuities , you can often withdraw money from them before they start paying you back. So these rules may apply to early withdrawals from these types of annuities .

Common Annuity Withdrawal Rules

Before we get any further, we have to stress this: The rules around taking money out of an annuity vary widely. The following are the most common rules, but that doesn’t mean that they apply to your particular annuity.

Fortunately, you can always find your specific early withdrawal rules explicitly stated in your annuity contract.

Surrender Charges

As we discussed, annuity contracts are not designed as short-term investments. So if you take money out of your annuity early, you may end up paying “ surrender charges” or fees. This is the cash surrender value for surrendering a portion of your annuity for cash (i.e. “cashing out”). It’s levied when you withdraw from your annuity during the “ surrender charge period” which is specified in the annuity contract. If an annuity owner keeps their money in the annuity until the surrender charge period is over, they won’t have to pay surrender charges. Surrender charges are levied by the insurance company that issued your annuity.

Some companies have more relaxed rules about withdrawing from your annuity early. For example, at Canvas, we understand that sometimes life is unpredictable and you may need access to your annuity before you planned to. That’s why we offer our Flex Fund annuit y, which provides much more flexibility for withdrawing your cash. In general, always plan to leave your money in your annuity for the full term specified in the contract.

How much are surrender charges?

The value of a surrender charge will vary. In general, surrender charges decrease each year of the annuity’s term.

For example, with the Canvas Future Fund on a 7-year term, the surrender charge starts at 9% in the first year. But the charge decreases annually to 0%. Again, always check your contract to understand how much you would pay when withdrawing from your annuity early.

Waiver of surrender charges

Some insurance companies, including Canvas, offer a waiver of surrender charges in certain circumstances.

For example, Canvas offers a waiver of surrender charges (WSC) rider. The rider allows you to access your funds penalty-free in the event that you have a qualifying chronic, terminal illness, or are confined to a nursing home. With it, you can feel confident that if you encounter extenuating circumstances, you’ll be able to access some money without penalty.

Free Annuity Withdrawal Provisions

Some, but certainly not all, annuity contracts allow you to withdraw a portion of your funds each year without being subject to surrender charges. You’re often granted up to 10% of your total annuity contract value. This is called the free withdrawal provision.

Both the Canvas Future Fund and the Flex Fund allow you to withdraw up to 10% of the accumulation value of your annuity each year without paying surrender charges. If you withdraw more than the free annuity withdrawal amount, you may have to pay a surrender charge.

Death Benefits Payouts and Surrender Charges

Some insurance companies may also levy a surrender fee on beneficiaries that inherit an annuity and then make a withdrawal before the term is over. At Canvas, we do not require a beneficiary to wait until the end of the annuity’s contract term to access the money. And we don’t assess surrender charges on beneficiaries of an annuity. But some companies are different—again, always refer to your contract to understand the rules that apply to you.

Tax Consequences

In addition to surrender charges levied by the insurance company, early withdrawal from your annuity may face a 10% federal tax penalty levied by the Internal Revenue Service ( IRS).

This is the same 10% withdrawal penalty levied on early distributions from a 401(k) or individual retirement account ( IRA). The IRS considers an annuity as a retirement product, and there are plenty of significant tax advantages of annuities for people who hold them.

This includes allowing annuities to grow tax-deferred. They do this to encourage individuals to save for retirement. But they’ve implemented additional tax penalties on withdrawals before age 59 ½ to discourage people from using annuities for short-term tax advantages.

This 10% penalty would be levied in addition to any ordinary income tax treatment applicable to the withdrawal. Note that annuity payments are taxed as regular income (not capital gains) in the year that the withdrawals are received. Check out our guide on annuity taxation for more information about how annuity income is taxed.

Required Minimum Distributions

Also keep in mind that if your annuity is held in an IRA or 401(k), you may be subject to required minimum distributions ( RMDs). RMDs are the amount of money that the IRS requires that you take out of a retirement account each year. They generally begin to apply when you reach age 72 . Failing to withdraw the minimum required by the IRS could result in penalties.

Note that Roth IRAs and non-qualified annuities —both retirement instruments funded with after-tax dollars—are not subject to withdrawal requirements.

How To Get Money From My Annuity Without Penalties?

That all may sound a bit complicated, but it’s really not.

In fact, here’s a simple tip to avoid all the early withdrawal penalties: Simply wait until the surrender period ends before withdrawing from your annuity.

If you do make withdrawals within the surrender period, make sure that your withdrawals are within the amount allowed by the free withdrawal provision in your contract. And to avoid the IRS tax penalty, make your annuity withdrawal after age 59½.

Of course, the best way to avoid penalties is to avoid early withdrawals entirely. If you purchase an annuity, wait out the surrender period and, if you are over age 59½, choose annuitization . That way, you can enjoy a steady retirement income, penalty-free. This is different from selling your annuity but, even in that case, there are fees you'd have to deal with.

Annuities Are Your Secret Weapon for a Secure Retirement

Annuities are popular precisely because they’re such effective retirement planning instruments. They can help supplement your social security check and retirement savings to ensure that you live comfortably in your golden years. But they really are meant for retirement planning.

They’re not for short-term investing. Avoiding withdrawal penalties is quite simple: Just keep your money in the annuity until you retire. When you need the money in retirement—when the surrender period is over, and you’re past 59½ years of age—you’ll get a steady income, and you’ll get it penalty-free.

Wondering how an annuity could help your retirement planning? Talk to our licensed agents. They’re friendly, knowledgeable, and can help you understand your annuity options. They can help you make an informed decision and achieve your ideal retirement lifestyle.

Citations

1. United States Government. (n.d.). Variable Annuity Surrender Charges.
2. Internal Revenue Service. (n.d.). Pension and annuity income.