Should you trade in your old annuity through a 1035 exchange?
Sometimes the answer is yes. Other times, keeping your current annuity is clearly the better decision.
I recently spoke with someone who wanted to replace an existing annuity. After reviewing the contract, I told them not to change anything because what they already had was good.
The goal should never be to replace an annuity simply because a newer product is available. A replacement should provide a meaningful improvement in lifetime income, growth potential, guarantees, liquidity, or another benefit that matters to your retirement plan.
Need help choosing the best annuity for your unique situation? Have questions about getting an annuity? If so, it’s best to speak with an annuity specialist. Watch this short video to see how I can help you do this (at no cost to you!)
Tip: See how much an annuity could pay you using my annuity calculator
What Is a 1035 Exchange?
A 1035 exchange generally allows you to move money directly from one nonqualified annuity contract into another annuity without recognizing the gain as taxable income at the time of the exchange.
The money must normally transfer directly between the insurance companies. Taking possession of the funds yourself could create an unwanted taxable event.
Technically, annuities held inside traditional or Roth IRAs are generally moved using a direct transfer or trustee-to-trustee transfer rather than the same tax rules used for a nonqualified 1035 exchange. Either way, the goal is usually to keep the money within the same tax registration and avoid an unnecessary taxable distribution.
A properly completed exchange does not make an unsuitable annuity suitable. You still need to compare the benefits, surrender charges, income guarantees, fees, and restrictions.
When Replacing an Old Annuity May Make Sense
Annuity products can change considerably over five or ten years. Newer contracts may offer stronger lifetime-income payouts, better fixed rates, improved index options, higher participation rates, or more useful contractual guarantees.
Replacing an old annuity may make sense when the new contract offers:
- Significantly higher guaranteed lifetime income
- Better fixed or indexed growth potential
- Stronger contractual guarantees
- A premium bonus that offsets an existing surrender charge
- Better access to money during certain health or long-term-care events
- Benefits that more closely match your current retirement goals
The key word is significantly.
Moving from one annuity to another for a small improvement usually does not justify restarting a surrender-charge schedule or giving up benefits you already earned.
👉 Want help comparing your current annuity with today’s available options? Click here to schedule a call with me.
When Keeping Your Current Annuity Is Better
Not every old annuity should be replaced.
Some older contracts contain guarantees that are no longer available. You may also have a strong benefit base, a valuable withdrawal percentage, an enhanced death benefit, or a favorable income rider that would disappear after the exchange.
Before changing anything, consider what you would lose:
- Your current income benefit
- Existing death-benefit guarantees
- Access to penalty-free withdrawals
- Contractual growth already credited
- Long-term-care or enhanced withdrawal features
- The remaining time on your surrender schedule
A new annuity also normally begins a new surrender period. Regulators specifically warn consumers to consider surrender charges, new surrender periods, lost benefits, and other costs before replacing an annuity.
💡 Pro Tip: Never cancel your current annuity before the new contract has been approved and the transfer process has been properly arranged.
How to Compare Your Current Annuity With a New One
The easiest place to begin is by calling your current insurance company.
Ask this question:
“If I begin my guaranteed lifetime income today, how much will I receive each year?”
You may also be able to estimate the income from your statement. Many contracts show an income benefit base and a lifetime withdrawal percentage.
For example, if your benefit base is $400,000 and your withdrawal percentage is 6%, the contractual income would generally be:
$400,000 × 6% = $24,000 per year
However, every contract calculates income differently. Your account value, benefit base, withdrawal rate, age, income start date, and rider provisions can all affect the result.
When comparing contracts, do not become distracted by the largest advertised bonus or roll-up percentage.
The most important question is:
How much contractual lifetime income will this annuity actually pay me?
A large benefit base is not the same as cash you can withdraw. It is usually a separate value used to calculate your guaranteed income.
If you’d like an independent unbiased opinion on whether you should trade in your old annuity, click here to schedule a call and I can review your options.
Surrender Charges, Premium Bonuses, and Replacement Rules
One of the biggest obstacles to replacing an annuity is the surrender charge.
Suppose your current annuity has an accumulation value of $430,000 but a surrender value of only $400,000. Replacing it would mean giving up $30,000 unless the new contract provides enough additional value to justify or offset that difference.
This is where a premium bonus may help.
A premium bonus is added to the contract value. That is different from an income-base bonus, which may increase the value used to calculate income but may not increase the actual cash value available to you.
In the example from the video:
- A 7% premium bonus turned a $400,000 deposit into a beginning contract value of approximately $428,000.
- A 10% premium bonus created a beginning contract value of approximately $440,000.
The 10% bonus example produced approximately $34,000 in annual lifetime income. That was not the highest available payout in the comparison, but it could still make sense if the existing annuity only provided around $20,000 per year.
That would represent approximately $14,000 more in annual contractual income.
Bonuses should not be viewed as free money. They may come with longer surrender periods, rider requirements, vesting schedules, lower growth terms, or other restrictions.
Replacement requirements can also vary by state, carrier, contract, and the circumstances of the transaction. The exchange must provide a legitimate consumer benefit and should not be recommended solely to generate a new sale.
An Example of Comparing Lifetime Income
I reviewed an illustration involving $400,000 for someone in Kentucky.
The comparison showed an immediate lifetime-income option of approximately $33,120 per year from one carrier. Other options were around $31,000 per year.
When the income start date was delayed until age 67, another illustration showed approximately $37,371 per year for life.
That contract used a 7.2% guaranteed income-base roll-up for the illustrated two-year deferral period. The income benefit base increased to approximately $459,000, which was then multiplied by the applicable withdrawal percentage.
Remember that the income benefit base is not the same as your cash value.
The illustration also showed how:
- The remaining account value could pass to beneficiaries
- The death benefit could decrease as withdrawals continued
- Surrender charges would apply during the surrender period
- An enhanced withdrawal could provide additional income after qualifying health events
- The standard lifetime income would continue after the account value reached zero, subject to the contract’s guarantees
These figures came from a specific illustration. Actual payouts depend on your age, state, income start date, contract design, carrier rates, and whether the income is based on one life or two.
👉 Watch the video above to see how the income and benefit-base calculations work.
Conclusion
Replacing an old annuity can make sense if a new contract offers meaningfully higher lifetime income, stronger guarantees or features that better match your retirement goals. However, if surrender charges are high or your current annuity includes valuable benefits that cannot be replaced, keeping it may be the better decision.
The best approach is to compare the contracts side by side and focus on the actual income, cash value, fees and guarantees (not just the advertised bonus).
Need help with finding the best annuity for your retirement?
Click here to schedule a call with me.
On the call, I can help you:
- Determine what type of annuity is best for you
- Find the highest paying annuities for your unique situation
- Answer any other questions you may have