Annuities for early retirees: pensions you can buy, and products you can regret

By Tom, CPA · Updated October 25, 2026

TL;DR: An annuity is a contract with an insurance company. A simple single-premium immediate annuity (SPIA) turns a lump sum into lifetime income, which is a hedge against living a long time. Variable annuities are investment accounts with insurance features, and their fees can be significant. Investor.gov gives an example base charge of 1.25% a year, before fund and rider fees. For most early retirees at 40 or 50, annuities make more sense later, if at all.

Educational only, not tax, legal, or investment advice. Examples are illustrations, not predictions. Rules and limits change; verify current figures and talk to a qualified professional about your situation.

There are two kinds of annuities: the kind economists love and the kind salespeople love. They're rarely the same product. The economists' favorite is a plain single-premium immediate annuity, basically a pension you buy. The salespeople's favorite tends to have a name like "Platinum Lifetime Advantage Max Plus" and a fee schedule longer than its marketing brochure.

Lavish Larry was pitched an annuity at a free steak dinner seminar and came home very excited about something called a "roll-up rate". Frugal Fran has nothing against annuities, but she wants to know what she's paying and what she gets in return. This guide covers the main types, how payouts work and when one might fit a FIRE plan. Build the core first: the three-fund portfolio and index fund investing.

CPA Warning Label: Annuity guarantees depend on the financial strength of the insurer. Surrender charges can make early exits expensive. Withdrawals may be taxed as ordinary income and, before 59½, may face an additional tax. Read the contract and prospectus.

Types of annuities

Investor.gov describes a variable annuity as "a contract between you and an insurance company that serves as an investment account," with value that varies with the investment options you choose. It also notes you can lose money, including your original investment, and that all guarantees depend on the insurer's financial strength.

The rest of this guide focuses on SPIAs, the simplest income product, and variable annuities, the most expensive common one.

SPIA payout logic

A SPIA pays you a fixed amount for life. The insurer prices it using three ingredients:

1. Your money returned to you, spread over your expected lifetime.
2. Interest the insurer earns, mostly from bonds.
3. Mortality credits: people in the pool who die early subsidize those who live long. That's the unique benefit no bond ladder can match.

Younger buyers get lower payouts because the money has to last longer. A rough way to see this is to calculate a level payment that spends $200,000 at an assumed 4.5% interest rate:

Illustration: a simple amortization, not an actual quote. Real quotes depend on age, sex, interest rates, insurer costs and profit, and the options you choose.

The key insight: at 45, an annuity's payout looks a lot like a modest withdrawal rate with the money gone forever. Mortality credits are small at young ages because few people die in their 40s and 50s. They become valuable at older ages. That's why researchers often suggest annuitizing, if at all, around 70 to 80. The Bogleheads VPW method suggests considering a partial annuity at 80.

Fees in variable annuities

According to Investor.gov, common variable annuity costs include:

• Mortality and expense (M&E) risk charge: calculated as a percentage of contract value, with an example of 1.25% a year.
• Administration fees: a flat fee (perhaps $25 or $50 a year) or a percentage (typically around 0.15%).
• Underlying fund fees: the mutual funds inside the annuity charge their own expense ratios.
• Surrender charges: if you withdraw within the surrender period, often declining over several years.
• Optional benefit fees: living and death benefit riders cost extra.

Stack those and total annual costs can approach or exceed 2% to 3% in some contracts, before surrender charges. Over decades, that's a large drag. See why expense ratios matter. Investor.gov also notes that contract fees may go toward your financial professional's compensation. See advisor fees for questions to ask.

Tax notes: gains are taxed as ordinary income when withdrawn, not at capital gains rates. Holding a variable annuity inside an IRA or 401(k) adds no extra tax advantage, according to Investor.gov. Under Section 72(q), withdrawals before 59½ from a nonqualified annuity may face a 10% additional tax on the taxable portion, with exceptions, which matters a lot to early retirees.

If you've already bought one and regret it, check two things. First, the free look period: Investor.gov says you can usually cancel within a short window, often 10 to 30 days, without a surrender charge, with a refund that may be adjusted for investment performance. Second, if you're past that window, compare the surrender charge with the ongoing fees you'd save by leaving. Sometimes waiting until the surrender period ends is cheapest. Be cautious about exchanging one annuity for another, which can restart the surrender clock.

Inflation riders

A fixed SPIA payment loses purchasing power every year. At 3% inflation, a payment's real value roughly halves in about 24 years. For a 45-year-old with a 40 to 50-year horizon, that's a serious problem.

• Fixed escalators (for example, payments rising 2% or 3% a year) start with a lower first payment. In our simple model, a payment that rises 3% a year, at the same 4.5% rate over 40 years, starts around $6,632 instead of $10,869. That's illustrative math, not a quote.
• CPI-linked annuities have become harder to find from private insurers. Check what's available when you're shopping.
• Social Security is the inflation-adjusted annuity most Americans already have. Delaying benefits increases the payment, so many retirees use portfolio money to delay, effectively buying more inflation-protected lifetime income.
• A TIPS ladder provides inflation-protected income for a fixed period without the mortality pooling. See the TIPS ladder guide.

When an annuity fits

An annuity may make sense when:

• You're older (often 70+), and longevity is your main worry.
• Guaranteed income (Social Security, pensions) won't cover your essential expenses, and you want a floor.
• You know you'd panic in a crash, and a guaranteed check would keep you from selling.
• You're comparing a pension's lump sum vs annuity option, and the annuity is priced favorably.

It's usually a poor fit when:

• You're 40 to 55, with decades of inflation ahead and a need for flexibility.
• The product is sold with high commissions, long surrender periods or complex riders you can't explain.
• You'd buy it inside an IRA "for tax deferral", which an IRA already provides.

Illustration: Fran, 45, won't annuitize now. Her plan is to keep a balanced allocation, delay Social Security, and revisit a small SPIA around 75 to 80 if she's healthy and rates are reasonable. Larry, 52, didn't sign at the steak dinner, after Fran asked him to write down the total annual fee. He couldn't find it. That was the answer.