Yes, you can withdraw money from an annuity early, and most contracts let you take a portion each year without any surrender charge. Taking more than that during the surrender period usually costs a surrender charge, and possibly a market value adjustment. Separately, if you're younger than 59½, the IRS generally adds a 10% penalty on the taxable gains.
Those are two different costs from two different places: one from the insurance contract, one from the tax code. Knowing which one applies, and how big each is, tells you whether an early withdrawal is a minor expense or an expensive mistake.
How much can you withdraw from an annuity without a penalty?
Most fixed and fixed indexed annuities allow a penalty-free withdrawal of about 10% of the account value each year, with no surrender charge. The exact amount varies by contract. Some allow 10% of the premium instead of the account value, some allow only the interest earned, and some don't allow any penalty-free withdrawal in the first contract year.
The allowance is usually not cumulative: skip it this year and you generally can't take 20% next year. And this allowance only waives the insurer's surrender charge. It does not waive income tax or the IRS penalty, which follow their own rules.
What is a surrender charge?
A surrender charge is a fee the insurer deducts if you withdraw more than the penalty-free amount, or cash out the contract, during the surrender period. It typically starts at around 7% to 10% in the first year and declines each year until it reaches zero, usually after 3 to 10 years depending on the product.
Here's a hypothetical example of a 7-year schedule:
| Contract year | Surrender charge (hypothetical) |
|---|---|
| 1 | 7% |
| 2 | 6% |
| 3 | 5% |
| 4 | 4% |
| 5 | 3% |
| 6 | 2% |
| 7 | 1% |
| 8 and later | 0% |
The charge applies only to the amount above the penalty-free allowance. Your contract's actual schedule is in the disclosure and contract pages, and our surrender charges guide explains how to read one.
What is a market value adjustment?
A market value adjustment (MVA) is a second adjustment some contracts apply to early withdrawals, and it can either reduce or increase what you receive depending on how interest rates have moved since you bought. If rates have risen, the MVA usually reduces your withdrawal. If rates have fallen, it can add to it.
Not every annuity has an MVA, and it typically applies only to amounts subject to a surrender charge. Contracts with an MVA often pay a slightly higher rate in exchange. If you're comparing MYGAs, it's worth checking which ones carry one.
Are there exceptions that waive surrender charges?
Yes. Many annuities waive surrender charges if you enter a nursing home or are diagnosed with a terminal illness, and most waive them at death. These waivers are written into the contract (sometimes as a built-in rider), and the conditions vary.
Common waivers include:
- Nursing home or long-term care confinement, often after a stay of 60 to 90 days and only after the first contract year.
- Terminal illness, typically with a physician's statement of a limited life expectancy.
- Death of the owner, where the death benefit is generally paid without surrender charges.
- Required minimum distributions from an IRA annuity, which most fixed contracts treat as penalty-free.
- Disability or unemployment, offered by some contracts but less common.
Read the waiver language before you buy, not after you need it. Waiting periods and definitions differ from carrier to carrier.
How is an early annuity withdrawal taxed?
For a non-qualified annuity, withdrawals are taxed gains first: every dollar you take out counts as taxable interest until all the growth has been withdrawn, and only then do you get your original premium back tax-free. This last-in, first-out treatment comes from IRC Section 72(e) and applies to contracts issued after August 13, 1982.
So if you put in $100,000 and the contract is worth $130,000, your first $30,000 of withdrawals is fully taxable as ordinary income. For an annuity held inside an IRA, essentially every withdrawal is taxable because the money went in pre-tax. Our annuity taxes guide walks through both cases.
What is the 10% IRS penalty, and how do you avoid it?
If you withdraw taxable gains from an annuity before age 59½, the IRS generally adds a 10% additional tax on the taxable portion, on top of regular income tax. For non-qualified annuities this comes from IRC Section 72(q); for IRA annuities, from Section 72(t).
The exceptions under Section 72(q) include distributions:
- Made on or after age 59½
- Made after the owner's death
- Made because the owner is disabled
- Taken as a series of substantially equal periodic payments over your life expectancy
- From an immediate annuity
- Attributable to money invested in the contract before August 14, 1982
The penalty applies only to the taxable portion. Returning your own after-tax premium (once the gains are out) isn't penalized. IRA annuities follow the somewhat different exception list in Section 72(t), described in IRS Publication 590-B.
How much does an early annuity withdrawal really cost?
The total cost is the surrender charge on the excess amount, plus income tax on the gains, plus the 10% IRS penalty if you're under 59½. Here is a hypothetical example of how the layers stack for a 55-year-old who withdraws $30,000 in year 3 from a non-qualified annuity worth $130,000 (with $30,000 of gains), under the 7-year schedule above:
| Cost layer | How it's figured | Hypothetical amount |
|---|---|---|
| Penalty-free allowance | 10% of $130,000 | $13,000 with no surrender charge |
| Surrender charge | 5% of the $17,000 above the allowance | $850 |
| Income tax | Ordinary income on $30,000 of gains | Depends on your bracket |
| 10% IRS penalty | 10% of the $30,000 taxable portion | $3,000 |
The surrender charge is often the smallest piece. For someone under 59½, the IRS penalty and income tax usually matter more, which is why timing a withdrawal after 59½, or after the surrender period ends, can save real money. An MVA, if the contract has one, would add or subtract on top of this.
What are the alternatives to cashing out early?
Before surrendering a contract, check whether a smaller withdrawal, a waiver, or simply waiting would get you what you need for less. Several options often cost less:
- Stay within the penalty-free amount, spread across two contract years if possible.
- Check for a waiver if you're facing a health event.
- Wait out the schedule. If you're in year 6 of 7, the remaining charge may be small.
- Consider a 1035 exchange if the real problem is a poor contract rather than a need for cash. Our article on being stuck in a bad annuity covers how to weigh that.
Keep in mind that withdrawals reduce the death benefit, and on a contract with an income rider, withdrawals above the rider's allowed amount can reduce the guaranteed income permanently.
Is an annuity a good place for money you might need soon?
Usually not. An annuity is designed for money you can leave in place for the full surrender period. If you expect to need large or unpredictable amounts soon, a shorter-term product, or keeping that money outside an annuity altogether, may make more sense. Matching the surrender period to your timeline is one of the most important choices you make when buying. Our MYGA and fixed indexed reviews list each product's surrender schedule.
If you already own a contract and are weighing a withdrawal, our free tools can help you compare options, and a licensed advisor can walk through your specific contract on a call. For the tax side of your situation, talk to a tax professional.
Sources
- Internal Revenue Code Section 72(e) (amounts not received as annuities; gains-first taxation)
- Internal Revenue Code Section 72(q) (additional tax on early distributions from annuity contracts)
- Internal Revenue Code Section 72(t) (additional tax on early distributions from qualified plans and IRAs)
- IRS Publication 575, Pension and Annuity Income
- IRS Publication 590-B, Distributions from Individual Retirement Arrangements
- NAIC Buyer's Guide for Deferred Annuities
- FINRA investor guidance on annuities and surrender charges