Surrendering your contract

Breaking down the fees The fee structure for annuities is complicated. Here we break down the fee structure for each annuity. Variable annuity. There are three elements to a variable annuity fee: the "mortality and expense" (or M&E) fee, the subaccount fee, and the annual contract maintenance charge. M&E covers insurance expenses, which include the risk the insurance company assumes to pay you a lifetime income stream, the death benefit, and the commission paid to the agent or broker who sold you the contract. The subaccount fee covers the cost of managing your annuity's investment accounts. The annual contract maintenance charge is a flat fee, usually around $30. The average fee for a variable annuity is 2.12 percent, according to Morningstar. Fixed annuity and equity-indexed annuity. There are no up-front charges in either of these annuities. The insurance company makes money on these by subtracting the amount of money it is required to pay on these by investing the assets in the annuities.

If you buy an annuity and then decide you want to get out of the contract, you can surrender your annuity. Most companies charge you a surrender fee if you decide to get out your annuity within the first seven to eight years of owning it. The shorter amount of time you are in the annuity, the more you'll pay in surrender fees. For example, if your annuity has a seven-year surrender period, and you surrender your annuity in the first year, you may pay 7 percent of the value of your investment to the company. If you surrender in the second year, you may pay 6 percent, and so on. (For more, see Getting out of your annuity.)

If you want to switch one annuity for another, you can do so without paying taxes. Exchanging one contract for another is known as a 1035 exchange (named after Section 1035 of the federal tax code). In a 1035 exchange, you can exchange a life insurance policy for another life insurance policy, an annuity for another annuity, or a life insurance policy for an annuity without paying taxes. However, you cannot exchange an annuity for a life insurance policy without paying taxes on the gains in your contract.

If you need to tap into your money before the surrender period, some insurers will allow you to access a small percentage of your investment, about 10 to 15 percent, under certain circumstances, such as serious illness or disability. After the surrender period, you can withdraw as much out of your annuity as you want. However, if you take out that money before age 59½, it is subject to 10 percent penalty tax.

Shopping tips

If you decide to shop for an annuity, here are some things to consider:

• Figure out how much you have accumulated in other tax-deferred savings plans or pensions. Determine if there is a possibility that you could outlive your retirement assets.

• Determine what kind of annuity you want. Do you want your investment to be steady and guaranteed? Then you may want to consider a fixed annuity. Are you willing to ride out the highs and lows of the stock market in the hopes of making more money? Then you may want to opt for a variable annuity.

• Estimate how long you plan to have your money in the contract. On most annuities, you will pay hefty surrender fees if you surrender during the first seven to eight years on your contract. You also must have your money in the contract for a long time in order to have the tax deferral justify the high fees. According to Patrick Reinkemeyer, director of investment consulting at Morningstar, on average it takes 10 to 15 years of tax-deferral to justify owning a variable annuity instead of a mutual fund.

• Consider the financial strength of the provider. Most, though not all, states will protect you from the insolvency of an annuity provider through "guarantee associations" or "guarantee funds" but there are limits to that protection — in most states a limit of $100,000 for the current value of the annuity, or $300,000 in total lifetime benefits. This means that if the annuity provider goes belly-up you will no longer be assured an income for the rest of your life. Check your insurer's financial strength here.

• Examine the mortality and expense (M&E) fee structure of a contract carefully. Fees vary by company and by contract, so make sure you are getting good value for what you are paying for.

• Some annuities have features and riders that can meet a future need. For example, some variable annuities have long term care riders that will pay for nursing home costs. Others give you a bonus of 1 to 5 percent of your investment when you open an annuity. For more on the pros and cons of these features, read New variable annuity "bells and whistles" on the market and New variable annuity features provide value, but at a cost.

Accumulation phase. The phase in which you pay into your annuity. You can either contribute a lump sum of money or make payments into your annuity over time.

Annuitization phase. The phase in which you receive monthly payments from your annuity.

Basis points. The fees in your annuity. The number of basis points reflects a percentage of your investment. For example, 200 basis points would be 2 percent of your investment.

Death benefit. The amount of money your beneficiary receives if you die before you begin the annuitization phase. It is generally the value of your annuity or the amount you have invested, whichever sum is greater.

Mortality and expense (M&E). The fee the insurance company charges you to provide you with a lifetime income, and your beneficiaries with a death benefit should you die during the accumulation phase.

Non-qualified annuity. An annuity that is funded with after-tax dollars.

Qualified annuity. An annuity that is funded with pre-tax dollars.

Rider. A feature on your annuity that provides an additional benefit. For example, a long term care rider would cover nursing home costs. A bonus rider would give you an extra 1 to 5 percent of your investment upon buying the annuity.

Surrender. The act of getting out of your annuity. There is usually a fee if you surrender your annuity within the first seven or eight years of owning it. This fee is also known as a contingent deferred sales charge (CDSC) or a back-end sales load.

Tax deferral. The money that accumulates in your annuity grows tax-deferred, meaning you do not pay taxes on it until you begin receiving annuity payments. The death benefit on your annuity is also taxable to your beneficiary.

Term certain annuity. An annuity that provides you with income payments for a specific period of time, such as 10 or 20 years, rather than a lifetime.

An annuity is a retirement-planning tool that has two phases: the accumulation phase and the annuitization phase. In the accumulation phase, you give money to an insurance or investment company over a period of time or in a lump sum, and it earns a rate of return. In the annuitization phase, you begin to withdraw regular payments (such as monthly or annually) from your contract until you die.

An annuity has a death benefit, although it is not like one found in a life insurance policy. If you die before you annuitize, your beneficiary will receive either the current value of your annuity or the amount you have paid into it, whichever is greater. For example, if you die when your investments are performing poorly and your account value is less than what you have paid in, your beneficiary would receive the amount you paid in.

Once you begin to receive monthly payments, you no longer have a death benefit on your contract. For example, if you annuitize at age 65 and die at age 67, the insurance company keeps your money in your contract. However, you can buy "term certain" annuities, which guarantee that either you or your beneficiary will receive payments for a certain period of time, such as 10 to 15 years. For example, if you died three years after you began receiving payments from a 10-year term certain annuity, your beneficiary would still receive payments for the next seven years.

The money in your annuity grows tax-deferred, meaning that the money is not taxable until you begin to receive payments from your annuity. Once you receive payments your gains are taxed at your ordinary income tax rate. If you die before you annuitize, your beneficiary pays taxes on the death benefit. In either case, the person who receives the money (the annuityholder or your beneficiary) is taxed at his or her ordinary income tax rate.

The ideal annuity buyer is 55 or older. Annuities are less attractive to younger investors because there is a 10 percent penalty tax if you withdraw money from your annuity before age 59½ for reasons other than death or disability. However, many people who have already retired and need annuity income right away opt for immediate annuities, which skip the accumulation phase and begin to issue payments as soon as you invest in the contract. (For more on this, read The ups and downs of immediate variable annuities.)

The ideal annuity buyer is a person who has already contributed the maximum amount to their existing tax-deferred retirement plan, such as a 401(k), 403(b), or IRA. That's because you are already building up tax-deferred money in those plans, and the fees associated with those savings vehicles usually are much lower than those of annuities.

The two main forms of life insurance available are “term” and “permanent.”

Simply put, term life insurance provides death benefit protection for a specified period of time (for instance, you might buy a 10-year term policy). Generally speaking, if you're looking for coverage for a short period of time, term life makes sense.

If you are interested in using the policy as a form of savings, consider a permanent life insurance policy. Regardless of the type of life insurance you buy, most policies require you to meet certain medical criteria.

Term life insurance

Non-Guaranteed Term Life

Non-guaranteed term life provides coverage only for a short time (usually a year) and is pure death benefit protection. The risk with term life is that your health might deteriorate and you could be unable to get another policy once the term is up. Premiums can also increase dramatically as you age. Term life insurance is a good choice for young people who can't afford the higher costs of permanent insurance, or for people with financial obligations that will disappear in time, such as a car loan or a mortgage.

Annual Renewable and Convertible Term

Annual renewable term insurance policies are for multiple years, usually 10, 20 or 30 years. By buying a longer term policy, your costs can be stretched out to avoid the annual increases found in non-guaranteed term life.

Convertible term is similar to annual renewable term, but it offers the opportunity to convert the coverage to a permanent policy in the future — when regular term premiums might become cost-prohibitive because of your age or health. This is a good choice for young people, who are unable to afford the higher cost of permanent insurance right now.

Permanent life insurance

Whole Life or Ordinary Life

Similar to annual renewable term and convertible term, whole life policies stretch out the cost of insurance over a longer period of time. With whole life policies; however, the costs are spread out over your entire life. Once your premiums are paid up, the excess dollars are invested by the company. In essence the insurance company is managing the investment of your excess premiums, and that’s why your choice of company is so important.

With this type of policy; however, the inflexibility of premium payments could become a burden if your expenses increase or if you lose your job.

Universal Life

This option offers greater flexibility than whole or term life. After your initial payment, you have the option of reducing or increasing the amount of your death benefit. If you choose to increase your benefit, you may have to provide medical proof that your health has not deteriorated. Also, after your initial payment, you can pay premiums any time and in any amount, as long as you don’t miss a payment.  In some cases, there are limits to how much extra you can pay in advance premiums.

You will need to manage these policies to maintain sufficient funding, especially because the insurance company can increase charges.

Variable Life

As the name suggests, Variable Life policies offer fluctuating benefits.  That’s because the insurance company invests your premiums.  The insurance company offers you a choice of funds, in which your money will be invested.  The amount of money your beneficiaries will receive and the cash value of your policy depend on how well the insurance company invests your money. 

There are both Universal and Whole Life versions of Variable Life.

Additional Resources In the U.S.: National Insurance Consumer Helpline (NICH) (800) 942-4242 In Canada: Canadian Life and Health Insurance Association (CHLIA) (800) 268-8099 (English) (800) 361-8070 (French)

In most variable and some universal life insurance policies, if your investments perform well, you'll have a higher cash value and death benefit (some universal and variable universal policies also allow you to add your cash value into your death benefit). If the investments lose money, you'll have a lower cash value and death benefit. Some policies will guarantee a minimum death benefit.

You can also take loans against the cash value of your policy, but if you don't pay them back with interest, your beneficiaries will receive a reduced death benefit. You can also surrender your policy for cash or convert it into an annuity, but keep in mind that cashing in a permanent policy after only a couple of years is an expensive way to get insurance protection for a short time.

Look closely at the investment options insurance companies offer for Variable Life policies. Make sure they are well-balanced, and give you an opportunity to invest at your own risk tolerance.

How do I know if a life insurance policy is right for me?

After reviewing the various life insurance policies available, you might still be unsure about which best meets your needs. The American Council of Life Insurers recommends consulting with an insurance agent.  ACLI spokesman Jack Dolan says an agent can recommend policies that he or she thinks will meet your needs. “Look at the recommended policy with care to be sure it fits your personal goals, Dolan says. “Often, an agent will provide a ‘policy illustration’ that shows how the policy will work.”

Carefully study your agent's recommendations and ask for a point-by-point explanation. Make sure the agent explains items you don't understand. Because your policy is a legal document, it is important that you know what it provides.

The ACLI also makes the following recommendations, when deciding which type of life insurance to purchase:

If your agent recommends a term policy, ask:

• How long can I keep this policy? If I want the option to renew the policy for a specific number of years or until a certain age, what are the terms of renewal?
• When will my premiums increase? Annually? Or after a longer period of time, such as five or 10 years? Can I convert to a permanent policy? Will I need a medical exam when I convert?

If your agent recommends a permanent policy, ask:

• Are the premiums within my budget?
• Can I commit to these premiums over the long term?
• How much will I receive if I surrender the policy?

The ACLI points out that permanent insurance provides protection for your entire life. If you don't plan to keep the policy for many years, consider another type. Cashing in a permanent policy after only a few years can be a costly way to get short-term insurance protection.

Many of us buy life insurance, because we want to make sure our loved ones remain financially secure after we die.  For those interested in estate planning, cash accumulation, wealth transfer and estate tax liquidity, life insurance can be a tool to achieve those goals as well.

There are many choices when it comes to life insurance. Policies are now available from more than 2,000 life insurance companies in the United States, as well as from banks and other financial institutions.

Assessing your life insurance needs

The Illinois Department of Insurance says there are some basic things to consider, when you are buying life insurance:

·        Before purchasing a life insurance policy, you should consider your financial situation and the standard of living you want to maintain for your dependents or survivors. For example, who will be responsible for your funeral costs and final medical bills? Would your family have to relocate? Will there be adequate funds for future or ongoing expenses such as daycare, mortgage payments, or college?

·        You should reevaluate your life insurance policies annually or whenever you experience a major life event such as marriage, divorce, the birth or adoption of a child, or purchase of a major item such as a house or business.

The Illinois Department of Insurance points out the reasons you might buy life insurance will vary, depending on your age, financial situation and other factors.  Listed below are some examples:

·        Single person with no dependents: Funeral expenses; medical bills; debts, such as credit cards or student loans; elderly parents who may be dependent upon you for support. Note: Buying life insurance at a young age is cheaper. As you get older or possibly incur a serious health condition, it will be more expensive or difficult to buy a policy.

·        Single person with dependents: Funeral expenses; medical bills; outstanding debts; caretaker expenses for your surviving dependents; education costs for surviving children.

·        Couple with no children: Funeral expenses; medical bills; outstanding debts, especially mortgage or car payments.

·        Couple with children: Funeral expenses; medical bills; outstanding debts, especially mortgage payments; child-rearing expenses; education costs. Note: Even if one partner does not work outside the home, you may want to consider life insurance to help pay for childcare or other services performed by that partner.

·        Older couple: Funeral expenses; medical bills; impact on spendable income; outstanding debts, such as a new home, second vacation home, or recreational vehicle; impact on assets you may want to leave for children or grandchildren.