Annuity Surrender

Corabelle's deferred variable annuity has a 210,000 dollar contract value and a surrender charge schedule now in its third year at 5%. The prospectus also provides a free withdrawal amount of 10% of contract value each contract year. She withdraws 21,000 dollars. What surrender charge applies?

1. A.None, because surrender charges may not be imposed after the second contract year under FINRA rulesNo rule caps the surrender period at two years. Schedules commonly run six to eight years; the correct reason here is the free withdrawal amount.
2. B.1,050 dollars, which is 5% of the 21,000 dollar withdrawalThis applies the schedule rate to the whole withdrawal and ignores the free withdrawal provision the prospectus grants.
3. C.10,500 dollars, which is 5% of the full 210,000 dollar contract valueSurrender charges apply to amounts withdrawn, not to the entire contract value, unless the contract is fully surrendered.
4. D.None, because the withdrawal exactly equals the 10% free withdrawal amount, though the distribution may still be taxable and penalizedCorrect. The free withdrawal corridor shields the entire 21,000 dollars from the surrender charge; income tax and any early-distribution penalty are separate questions.

Why: Most deferred annuities permit a stated percentage of contract value to be withdrawn each year without triggering the surrender charge. Corabelle's 21,000 dollar withdrawal is exactly 10% of 210,000 dollars, so it falls entirely inside the free withdrawal amount and no surrender charge is assessed. Anything above the free amount would be charged at the current 5% schedule rate. Separately, the withdrawal is still taxed last-in first-out and may face a 10% tax penalty depending on her age. The clue is the match between the withdrawal and the free withdrawal percentage. Review: annuity surrender charges. Trap: assuming any withdrawal during the surrender period is charged.

A deferred annuity has an accumulated value of $100,000. The contract permits a FREE WITHDRAWAL of 10% of the accumulated value each year and applies a 6% surrender charge to anything above that. The owner withdraws $30,000 this year. The surrender charge is:

1. A.$3,000This applies the 10% free withdrawal percentage as if it were the surrender charge rate.
2. B.$1,800This applies 6% to the entire $30,000 and ignores the free withdrawal provision.
3. C.$0The free withdrawal covers only the first $10,000. The $20,000 above that is charged.
4. D.$1,200Correct. $30,000 - $10,000 free = $20,000 chargeable; $20,000 x 6% = $1,200.

Why: First carve out the free withdrawal amount: 10% of $100,000 is $10,000, which carries no charge. The remaining $20,000 is subject to the 6% surrender charge, so the charge is 6% x $20,000 = $1,200. The clue is the free withdrawal provision, which must be applied before the charge. Review: annuity surrender charges.