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Tax-Free Trades with Annuities

If you’re unhappy with your annuity or if you want one with the features of newer models, consider using Section 1035 of the tax code, which permits one annuity to be exchanged for another without triggering the deferred income tax. You might, for example, own a variable annuity with high costs. If so, you may want to exchange for a lower-cost annuity. You can find low-cost annuities by shopping online; recommended issuers include Vanguard, Peoples Benefit Life, and Ameritas.

An expensive annuity might have mortality and expense (M&E) charges over 1 percent as well as mutual fund subaccounts with expense ratios well over 1 percent. Those costs can be cut sharply by exchanging for a less expensive version. Even if you have to pay a surrender charge of 4 percent or 5 percent to dump your old annuity, you may be better off going with a new one. A low-cost substitute can earn back the surrender charge in the first couple of years and from then on you would be ahead of the game.

You also can swap a life insurance policy you no longer want or need for an annuity, tax-free. An annuity may not require more premium payments and you can receive an income stream, now or in the future.