Free Withdrawal

How Free Withdrawals Work

Almost every annuity includes a free withdrawal provision—usually 10% of your account value per year. This gives you some liquidity during the surrender period without triggering penalties.

Important clarifications:

"Free" means surrender-charge-free, not tax-free – You still pay income tax on gains
IRS penalties may still apply – If you're under 59½, the IRS 10% early withdrawal penalty applies to gains
It's use-it-or-lose-it – You can't accumulate unused amounts across years
Resets annually – Calculated fresh each contract anniversary

📊 Real Example: Using Free Withdrawals

Account value: $200,000
Free withdrawal: 10%
Annual amount available: $20,000 without surrender charge

Scenario 1: Take $15,000
→ Within 10% limit = No surrender charge
→ Must pay income tax on gains portion
→ New balance: $185,000

Scenario 2: Take $35,000
→ First $20,000 = No surrender charge
→ Remaining $15,000 = Subject to surrender charge (say 7% = $1,050)
→ Net received: $33,950
→ Plus income tax and possible IRS penalty on gains

Common Free Withdrawal Amounts

10%: Industry standard for most FIAs, RILAs, MYGAs
5%: Some MYGAs with very competitive rates
15%: Rare, usually in products with other restrictions
0% first year, then 10%: Some contracts restrict year-one access

Free Withdrawals vs. RMDs

For IRA annuities, Required Minimum Distributions (RMDs) are always penalty-free from the insurance company, even if they exceed your free withdrawal amount.

Example: Your RMD is $25,000 but free withdrawal is only 10% ($20,000). The insurance company waives the surrender charge on the full RMD amount.

Accumulation vs. Income Phase

During accumulation (before annuitization):
Free withdrawal applies—typically 10% annually

After annuitization (income phase):
Free withdrawal doesn't matter—you're taking structured payments, can't access lump sum

Strategic Use of Free Withdrawals

1. Emergency access
Keep 10% available if you might need funds. Don't tap it unless necessary.

2. Supplement income
Take annual 10% to supplement other income sources during accumulation phase.

3. Dollar-cost averaging out
If unhappy with product, take 10% annually while waiting out surrender period.

4. Gifting
Take annual 10% to gift to family while minimizing surrender charges.

What Doesn't Count Against Free Withdrawal

RMDs: Always penalty-free regardless of amount
Hardship withdrawals: Most contracts waive surrender charges for nursing home confinement, terminal illness
Death: Beneficiaries typically avoid surrender charges entirely

Red Flags

No free withdrawal provision: Extremely rare and should be a deal-breaker
Free withdrawal only after year 5: Reduces liquidity significantly
Complex calculations: "10% of premium" vs "10% of account value" – latter is better
Advisor doesn't explain this feature: Critical for understanding liquidity

The Bottom Line

Free withdrawals provide limited liquidity during surrender periods. The 10% standard means you can access up to 10% annually without insurance company penalties—but you still face tax consequences and potentially IRS penalties.

Don't confuse "free withdrawal" with full liquidity. It's a safety valve, not unlimited access. If you think you'll need more than 10% annually, annuities may not be right for that money.