If you own an annuity -- a financial investment between you and an insurance company -- there are certain rules you must follow when withdrawing funds. If you don't follow these rules, you can face both a significant tax hit and penalties. If you want to avoid these, make sure to read your annuity's regulations carefully before you decide to take out even a small amount of money.
Before Age 59 1/2
You should never withdraw funds from your annuity before you reach the age of 59 1/2. If you do, the Internal Revenue Service will charge you a federal income tax penalty of 10 percent of the amount of money you take out. For example, if you withdraw $500, you will pay a penalty of $50.
And that's not all. You will also have to pay income taxes on your investment earnings, though you won't be charged any taxes on the amount of money you contributed to the annuity.
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After Age 59 1/2
After you've reached the age of 59 1/2, you can withdraw as much money from your annuity as you'd like without facing any penalties. Remember, too, that reaching this age does not require you to make any withdrawals. You can still keep your money in the annuity until you need or want to withdraw it.
Many annuities will charge you a fee if you withdraw money too early. Typically, these surrender charges kick in if you try to take out money within the first five to seven years that you've owned the annuity. In most cases, surrender charges total about 7 percent of the money you withdraw, according to a news story from CNNMoney.com. If you took out $500, you'd pay a surrender charge of $35 in this scenario.
The surrender charge usually falls by 1 percentage point a year, until it eventually reaches zero.
However, these charges can vary widely from annuity to annuity. Make sure to check with your insurance company on its surrender charge rules.