Chapter 3-3 Annuity Characteristics and Fees

Variable annuities oftentimes provide additional elective characteristics that also have additional charges.  One well-known characteristic is the guaranteed minimum income benefit.  It ensures a specific minimum level of annuity payments, despite the fact that you may not have sufficient money in your account.   Additional characteristics may consist of long-term care insurance, which compensates for home health care or nursing home care if you grow severely sick.

You may need to take into consideration the financial health of the insurance company that underwrites any variable annuity you are thinking of purchasing.  This can influence the company’s capability to pay any benefits that are more than the total of your account in mutual fund investment alternatives, like a death benefit, guaranteed minimum income benefit, long-term care benefit, or totals you have distributed to a fixed account investment alternative.

It is important to understand that you will pay for every benefit offered by your variable annuity.  Make sure you comprehend the charges.  Thoroughly think about if you need the benefit or not.  If you need the benefit, take into consideration if you can purchase the benefit at a discount as part of the variable annuity or individually, for example through a long-term care insurance policy.

When you invest in a variable annuity, you will pay a number of charges.  These charges will lower the amount of your account and the return on your investment.  One of the charges that you will have to pay is surrender charges.  If you take money out of a variable annuity in a specific period following a purchase payment, generally within a period of six to eight years and at times as long as ten years, the insurance company will charge a surrender charge.  A surrender charge is a type of sales charge.  This charge is utilized to compensate your financial professional a commission for selling the variable annuity to you.  Usually, the surrender charge is a percentage of the total withdrawn, and goes down slowly over a time of a few years, referred to as the surrender period.  Many times contracts will let you to take out a portion of your account total every year, 10 or 15 percent of your account total for instance, without having to pay a surrender charge.  A second charge that you will have to pay is a mortality and expense risk charge.  This charge is equal to a fixed percentage of your account total, generally in the vicinity of 1 ¼ percent each year.  This charge pays the insurance company for the insurance risks it takes on under the annuity contract.  Gains from the mortality and expense risk charge are at times utilized to compensate the insurer’s expenses of selling the variable annuity, like a commission to your financial professional for selling the variable annuity to you.  Administrative fees are another charge that you will face.  The insurer may decrease charges to pay for record keeping and additional administrative costs.  This may be charged as an account maintenance fee, maybe $25 or $30 per year, or as a percentage of your account total, generally in the vicinity of 0.15 percent each year.  A fourth charge that you will have to pay is an underlying fund expense.  You will pay the fees and expenses charged by the mutual funds that are the underlying investment alternatives for your variable annuity, but not immediately.  There are also fees and charges for other characteristics.  Specific characteristics provided by a number of variable annuities, like a stepped-up death benefit, a guaranteed minimum income benefit, or long-term care insurance often have other fees and charges.


Additional charges, like initial sales loads, or fees for switching a portion of your account from one investment alternative to a different one, may also pertain.  You should consult with your financial professional to clarify to you all the charges that may pertain.  You can also look for an explanation of the charges in the prospectus.

Section 1035 of the U.S. tax code lets you exchange a current variable annuity contract for a new annuity contract without having to pay any tax on the income and investment profits in your existing variable annuity account.  These tax free changes, referred to as 1035 exchanges, can be beneficial if a different annuity has characteristics that you favor, like a greater death benefit, various annuity payout alternatives, or a bigger range of investment alternatives.  If you are considering a 1035 exchange, you should examine both annuities thoroughly.  You may be better off retaining the previous annuity because the new annuity may charge a new surrender charge interval.  Additionally, if you choose to do a 1035 exchange, you should consult with your financial professional or tax adviser to be sure the exchange will be tax free.  If you surrender the previous annuity for money and then purchase a new annuity, you will have to pay a tax on the surrender.  You may need to pay surrender charges on the previous annuity if you are still in the surrender charge period.  Moreover, a new surrender charge period typically starts when you transfer into the new annuity.  This signifies that, for a substantial number of years, as many as 10, you will have to pay a surrender charge if you withdraw money from the new annuity.

A number of insurance companies are now providing variable annuity contracts with bonus credit characteristics.  These contracts build up a bonus to your contract value dependant on a predetermined percentage, generally from 1 to 5 percent of purchase payments.  Variable annuities with bonus credits may have a drawback.  The costs are higher and can exceed the advantage of the bonus credit provided.  Usually, insurers will charge you for bonus credits in one or more ways.  One way in which insurers charge you is through higher surrender chargesA second way is through longer surrender periods; your purchase payments may be liable to surrender charges for a longer period than they would be under a comparable contract with no bonus credit.  Higher mortality and expense risk charges and other charges are another way in which variable annuity with bonus credit issuers charge you.  The difference may appear minute, but over time it can build up.  Moreover, a number of contracts may charge an individual fee specifically to compensate for the bonus credit.

Prior to buying a variable annuity with a bonus credit, you should inquire with the financial professional that is selling you the contract.  If the bonus is more valuable to you than any raised charges you will make up for the bonus.  This may be contingent on an array of determinants.  In addition to the total of the bonus credit and the raised charges, how long you keep your annuity contract, and the return on the underlying investments, are both factors.  You should also note that a bonus may only pertain to your original premium payment, or to premium payments you execute in the first year of the annuity contract.  Furthermore, with a number of annuity contracts the insurer will retract all bonus payments made to you during the previous year or another particularized period if you make a withdrawal, if a death benefit is paid to your beneficiaries when you die, or in other situations.

Financial professionals who sell variable annuities have a responsibility to advise you if the annuity they are selling is right for your specific investment needs.  You should not be intimidated when it comes to asking questions, and should record what they say so there will not be any lack of clarity at a later time.  Variable annuity contracts generally have a free look period of ten or more days, in which you can cancel the contract without having to pay any surrender charges and regain your purchase payments.  You can keep asking questions during this time to be sure you comprehend your variable annuity prior to the free look period ending.