Annuities typically have penalties associated with early withdrawal, called surrender charges. You may wonder why these charges are so prevalent on annuities. The reason is that carriers need them in order to provide you with the safety features and attractive interest rates of the annuity.
Consider your checking and savings accounts. Your money is safe and accessible in these accounts, but what interest rate are you receiving. Zero, or something extremely low, right? If you wanted to get a higher rate of interest on your money, what product would your bank offer to you? The answer is a certificate of deposit, which provides a higher interest rate, but it requires that you accept a penalty for early withdrawal.
Thus, you can see from your bank that if you want safety and an attractive interest rate, you need to sacrifice some access to your money, at least for a period of time. There is no financial product that will give you bulletproof safety, the potential for a high rate of interest, and full access to you money all the time – it can’t be done!
So, if safety and the potential to earn a high rate of interest are important to you, it makes sense for you to compromise a bit on liquidity for a portion of your retirement savings.
Now, let’s consider an annuity with a ten-year surrender charge period. Does that mean that you can’t touch any of your annuity money for ten years? Fortunately, almost all fixed annuities offer some access to your money, even during the surrender charge period. It is common for annuities to provide an annual penalty-free withdrawal amount equal to perhaps 10% of your contract value or your accumulated interest. There are also often provisions for the surrender charge to be waived in the event of certain hardships, such as nursing home confinement, diagnosis of terminal illness, or death.
Because of the surrender charge aspect, annuities are appropriate for a portion of your retirement savings, not typically for your entire retirement savings. Keep in mind that the existence of the surrender charge enables the carrier to give you want you want – safety and higher interest crediting potential – thus surrender charge ultimately benefits you.