Annuity Offers After a Windfall: What to Know Before You Decide

Why windfall recipients get targeted

Insurance agents and broker-dealers earn commissions when products are sold. Annuity commissions on fixed indexed contracts typically run 6–9% of the premium amount.¹ On a $1 million windfall deposit, that's $60,000–$90,000 to the selling agent — paid immediately by the insurance carrier from the contract's economics, not directly visible in your account balance on day one.

Windfall events — settlements, inheritances, business sales, lottery wins — are tracked by insurance distribution networks. Court records, public notices, and county property filings make large cash events partially visible. People who just received a windfall and haven't yet built a financial plan are the ideal customer for a product sale: they have money, they have anxiety, and they haven't yet hired an independent advisor who would flag the cost structure.

The four types of annuities and what they actually cost

Single Premium Immediate Annuities (SPIAs)

You give the insurer a lump sum; they pay you income for life (or a fixed term). SPIAs are the most transparent annuity structure and have the lowest costs. There are no surrender charges and no M&E fees — the cost is embedded in the payout rate the carrier quotes. SPIAs can genuinely solve a longevity risk problem for someone who has no other guaranteed income. They are also irrevocable: once funded, you cannot get your principal back.

Multi-Year Guaranteed Annuities (MYGAs)

A MYGA is the annuity equivalent of a CD: a fixed interest rate for a fixed term (typically 3–10 years), tax-deferred inside the contract. Top 5-year rates from A-rated carriers were running approximately 5.50–5.70% in 2026.² MYGAs can be a reasonable cash-parking tool if the surrender period and rate are competitive — but most have surrender charges for early withdrawal (typically 7–10% in year one, declining to zero by the end of the guarantee period). Unlike a brokerage CD, MYGA gains are taxed as ordinary income when withdrawn, not at capital gains rates, and the LIFO (last-in, first-out) rule means all gains come out first before you recover principal.³

Variable Annuities

Variable annuities invest in mutual fund sub-accounts. The annual cost structure is layered:

• Mortality and expense (M&E) fee: 1.25–1.50% per year for commission-based contracts.⁴
• Sub-account fees: 0.50–1.50% per year for the underlying fund expenses.
• Optional rider fees: 0.50–1.50% per year for lifetime income, enhanced death benefit, or return-of-premium guarantees.

A fully loaded variable annuity with a living benefit rider can carry total annual expenses of 3–4% — a meaningful drag on returns compared to a low-cost portfolio of index funds held in a taxable or IRA account. Surrender charges for early withdrawal typically run 6–8 years.

Fixed Indexed Annuities (FIAs)

FIAs credit interest based on a formula tied to a stock index (typically the S&P 500), subject to a cap, participation rate, or spread that limits your upside. The carrier retains the difference. FIAs carry the longest surrender periods of any annuity type — commonly 8–15 years — with starting surrender charges of 7–10%.¹ Agent commissions on FIAs are the highest in the category (6–9%), which explains why they dominate annuity sales to windfall recipients. The credited interest mechanism can be difficult to evaluate or compare across contracts because participation rates, caps, and index selection vary by carrier and can change after issue.

The tax treatment most buyers don't understand

Non-qualified annuities (those funded with after-tax money outside of an IRA or 401(k)) have a tax structure that often surprises buyers:

• LIFO taxation: The IRS treats every withdrawal as gains first until all accumulated earnings have been distributed. That means your first dollars out of a non-qualified annuity are 100% ordinary income, even if the bulk of the contract value is your original after-tax principal.³
• No capital gains rates: Unlike stocks and funds held in a taxable brokerage account, annuity earnings are taxed as ordinary income — at rates up to 37% in 2026 — regardless of how long you held the contract.
• No step-up in basis at death: A brokerage account receives a full step-up in basis when the owner dies; heirs pay no tax on gains accumulated during the decedent's lifetime. Annuities do not. The accumulated gain inside a non-qualified annuity is ordinary income to the beneficiary under IRC §72(s).³
• The §72(q) 10% penalty: Distributions from non-qualified annuities before age 59½ are subject to a 10% early withdrawal penalty on the taxable portion, in addition to ordinary income tax. Exceptions exist for disability, death, and annuitization (substantially equal periodic payments), but the penalty otherwise applies in full.⁵

When an annuity might genuinely fit

Not every annuity sale is predatory. There is a narrow set of situations where an annuity is the right tool:

• Lifetime income when no pension exists: A retiree with a large windfall and no Social Security or pension income, who wants a floor of guaranteed monthly payments they cannot outlive, is a legitimate SPIA candidate. The insurance company bears the longevity risk.
• Qualified annuity inside an IRA: Some annuity contracts inside IRAs (particularly deferred income annuities or QLACs) can address specific longevity planning needs. Under SECURE 2.0, qualified longevity annuity contracts (QLACs) can shelter up to $200,000 from RMD calculations.⁶
• Tax deferral when all other options are exhausted: A high-income earner who has maxed every other tax-advantaged account (401(k), IRA, HSA, 529) and has taxable income that will remain high indefinitely might find value in a low-cost, no-load variable annuity for additional tax deferral. This is a narrow case that applies to very few windfall situations.

In all three cases, the annuity decision should come after the full plan is built — not as the first product a newly wealthy person buys under time pressure.

Five questions to ask before you sign

1. What is your total compensation if I fund this contract? A fee-only advisor will answer in dollars. A commission-based agent may deflect.
2. What are all the annual fees, expressed as a percentage of account value? Get every layer: M&E, rider, sub-account, administrative. Add them up.
3. What is the full surrender charge schedule, and when does it expire? A 10-year surrender period on a FIA means a substantial portion of a windfall is illiquid for a decade.
4. If I die while the contract is in force, what does my beneficiary receive and what tax do they pay? The answer to the tax question may be "ordinary income on all accumulated gains."
5. How does the credited interest mechanism work, and can the cap rate, participation rate, or spread change after I buy? For FIAs, the answer is often yes — the carrier has significant discretion.

Already bought one? The §1035 exchange

IRC §1035 allows a tax-free exchange of one annuity contract for another — including from variable to fixed, fixed to indexed, or any combination — provided the exchange is done carrier-to-carrier (the cash never passes through your hands) and the owner and annuitant remain the same.⁷ If you hold an annuity with high fees and a surrender period that has expired or nearly expired, a §1035 exchange into a lower-cost contract may make sense. Partial §1035 exchanges are permitted, but taking any withdrawal from either contract within 180 days of a partial exchange converts the transaction into a taxable event.

A fee-only advisor can model whether the cost improvement from switching justifies any remaining surrender charge, and can run the exchange as a purely administrative process without generating a taxable event.

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