How To Get Money Out Of Annuity Without Penalty

how to get out of an annuity Annuities can provide guaranteed income for retirement. But at some point, you may decide you no longer want or need an annuity you've purchased. If buyer's remorse has you wondering if it's possible to recover your investment, we've got news you can use: There are several ways to get out of an annuity if it is no longer a good fit for your financial plan.

How to Get Out of an Annuity

There are several reasons for wanting to get out of an annuity. For example, you might be able to invest elsewhere with fewer fees or put the money into an account that offers more favorable tax treatment. Or you might simply feel that you don't need an additional stream of income for retirement after all.

Whatever your reason for wanting to get rid of an annuity, you may have more than one avenue for doing so. Here's what you need to know about your options — both the good and the bad — before dissolving an annuity contract.

1. The "free look" provision

If your annuity is a recent investment, you may be able to get out of it during the contract's free-look period. This is essentially a window of time in which you can test-drive the annuity to make sure you're comfortable with keeping it.

If you decide that you no longer want the annuity within the set time frame, then you can simply cancel the contract without incurring a surrender charge from the insurance company. Think of the free-look period as a get-out-of-jail-free card – but with a crucial caveat. Most insurers limit the time frame to 10 to 30 days after signing the contract. If that window of time has already closed for you, you'll have to consider another option.

2. The return of premium rider

Similar to life insurance offerings, annuity contracts can also include a return of premium rider. This type of add-on specifies that whatever premiums you've paid can be returned to you at any time, which effectively ends the annuity contract. The catch, of course, is that adding this and other riders to your contract usually means paying an extra fee.

If you have a return of premium option, know that you'll only be able to get back what you've put in — you can't cash in on any of the investment growth from your annuity. This is important because if you've had it for a while, the value of the annuity might have grown quite significantly. In this case, the convenience of getting out of your annuity should be weighed against missing out on the extra cash from the investment.

3. The 1035 exchange

how to get out of an annuity If your main motivation for wanting to get out of an annuity is that you simply don't like the terms, you may be able to roll it over into a new annuity, an option that may be particularly appealing if your annuity has a significant gain. The IRS allows investors to make what's called a 1035 exchange, in which you swap one investment for another similar one without triggering a tax penalty.

For example, you might want to switch from a variable annuity, which has a varied rate of return, to a fixed annuity that offers a guaranteed interest rate. Ordinarily, taking money out of an annuity would mean paying income taxes on the growth or principal, depending on whether it's a qualified or non-qualified annuity.

A 1035 exchange allows you to continue to defer paying income taxes on your annuity investment. One thing to note, however, is that you're still responsible for paying a surrender charge or similar penalty to the insurance company if your contract includes one.

Also keep in mind that by exchanging one annuity for another, you might be giving up certain features or add-ons, such as an enhanced death benefit. Additionally, when you start a new annuity contract you're also restarting the clock on the surrender period. That means should you want to withdraw money again or make another annuity exchange, you may end up paying this fee all over again.

4. The cash option

Cashing out an annuity is just what it sounds like: You receive a lump sum of cash from the annuity. This is similar to cashing out a permanent life insurance policy that has accrued cash value.

Pulling cash out of the annuity and terminating the contract might sound appealing if you have another use for the money or an annuity no longer fits your income needs. But as with a 1035 exchange, check to see if you'll have to pony up a hefty surrender charge to the insurance company, which could make cashing out now not worth it.

If you don't want to pay a surrender fee, look into whether you can take out money on an annual basis (subject to a certain limit.) Some annuities will allow you to withdraw a set percentage from the contract each year without the surrender charge coming into play, since you're not cashing it out completely.

The Bottom Line

how to get out of an annuity Carefully consider your motivations for walking away from an annuity before you commit to doing so. While you may have more than one way of getting out of annuity available to you, not all options are created equal. Each method for terminating an annuity contract comes with pros and cons, which should be weighed according to your individual circumstances.

Retirement Planning Tips

Annuities are just one option when it comes to potential streams of retirement income. Social Security benefits, a 401(k), an employee pension plan, IRAs and taxable investment accounts can also fit into the picture. Looking at each source of income individually can help you reshape your investment plan and projected retirement budget if needed.
Consider talking to a financial advisor if you have an annuity that you're no longer sure you need. If you don't already have one, finding an advisor who fits your needs doesn't have to be difficult. SmartAsset's free tool matches you with financial advisors in your area in 5 minutes. If you're ready to be matched with local advisors that will help you achieve your financial goals, start now.

Rebecca Lake Rebecca Lake is a retirement, investing and estate planning expert who has been writing about personal finance for a decade. Her expertise in the finance niche also extends to home buying, credit cards, banking and small business. She's worked directly with several major financial and insurance brands, including Citibank, Discover and AIG and her writing has appeared online at U.S. News and World Report, CreditCards.com and Investopedia. Rebecca is a graduate of the University of South Carolina and she also attended Charleston Southern University as a graduate student. Originally from central Virginia, she now lives on the North Carolina coast along with her two children.