Annuities are a cornerstone of retirement planning, that can offer a steady income stream later in life. But they can require you to lock in funds for a specific period, potentially limiting your available liquidity for emergencies. 

In these circumstances, an annuity loan may serve as a fail-safe, offering a way to access funds by borrowing against your annuity’s cash value. You can use this lump-sum payment to address any immediate financial needs without erasing the money you’ve saved up for retirement. Please note it is important to see if your annuity offers an annuity loan as many carriers do not allow this. If they do offer a loan, you should closely review the terms associated with the loan before making any decisions. 

Read on to learn more about the process of borrowing from an annuity. We’ll explore how you can use your annuity as collateral for a loan, the pros and cons, and the importance of repaying the loan on time to protect your retirement savings. 

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What is an annuity loan?

Annuities are a popular tool for retirement planning, but they typically require you to lock up your funds for a period of time. The challenge is that it can be difficult to access funds quickly if an emergency happens.

That’s where annuity loans come into play, when available they can offer a way to tap into the cash value of your annuity. Options include receiving a lump-sum payment by either borrowing against an annuity contract or using the contract as collateral for a loan from a third-party lender. Leveraging this value, you can access your funds without closing your annuity, which has tax implications, penalties, and the potential for lost future income. 

Your ability to capitalize on this option depends on certain factors. This includes the type of annuity you purchased — such as qualified annuities in an IRA or 401(k) or non-qualified annuities funded with after-tax dollars — and the terms of your contract. 

Benefits of an annuity loan

There are several advantages to annuity loans that make them an appealing option.

Access to immediate cash

The main benefit of an annuity loan is the ability to obtain funds quickly without surrendering your annuity. Emergencies happen, from unexpected medical bills to the untimely loss of a job. Even the best-laid investment plans can be upended when a crisis strikes. By borrowing against your annuity, you can gain access to cash without liquidating your investment and jeopardizing your long-term financial plans. 

Flexible repayment options

Borrowing from an annuity often carries competitive interest rates. This is typically a more favorable option compared to other types of loans, such as personal loans and credit cards. Annuity loan providers also may work with you to establish flexible repayment options. This includes the possibility of a lump-sum repayment or a structured payment plan over a set period. 

Preserve long-term growth

Ending an annuity prematurely can significantly diminish your savings due to early withdrawal penalties and taxes. When you borrow from an annuity contract, your invested funds can continue to grow through interest or investment gains, keeping your retirement plan on track. 

Expert guidance

The implications of borrowing against an annuity can be confusing for some. Taking out a loan with your annuity provider offers the ability to get professional guidance. 

At Gainbridge, we prioritize helping clients make informed, responsible decisions about our products. Our team of experts is ready to answer questions and help guide you along the way. 

Can you borrow against an annuity?

Yes, you can borrow against an annuity. There are two primary ways to do this. 

Borrowing directly from a non-qualified annuity contract

Non-qualified annuities are funded with after-tax dollars. Providers sometimes may allow you to borrow directly from the contract’s cash value when in the accumulation phase — the savings period where you’re contributing funds into the annuity. 

Since you are working directly with your annuity provider, this process can be relatively straightforward. Providers who offer this may allow you to borrow up to 50% of your annuity’s cash value, though terms, conditions, and repayment schedules vary. 

Using any annuity as collateral with a third-party lender

Maybe your annuity doesn’t have a direct loan feature or you need more flexibility than your annuity insurer is willing to provide. You may be able to secure a loan from a bank or other financial institution using your annuity as collateral. 

This is a less common approach compared to borrowing directly, and it comes with more drawbacks like strict repayment terms. There are also tax implications. For non-qualified annuities, the IRS may treat the loan as a non-periodic or lump-sum distribution — potentially triggering taxes on the gains and a 10% penalty if you’re under 59½. Qualified annuities, like those in IRAs or 401(k)s, generally face more stringent regulations. 

How to apply for an annuity loan

Applying for an annuity loan is generally a straightforward process.

Review your annuity contract

Start by carefully reading your annuity contract to understand its terms, including whether you’re allowed to take out a loan or use your annuity as collateral. Look for specifics on loan limits, interest rates, and repayment terms. If you’re borrowing against a qualified annuity, verify any restrictions in place due to tax regulations. 

Confirm loan feature or collateral eligibility

Contact your annuity provider or third-party lender. Confirm your contract details and get information about the size of the loan you can obtain based on your annuity’s value. If you’re considering a third-party lender, verify it accepts annuities as collateral.

Gather documentation (ID, contract)

When you’re ready, you’ll need to provide certain documentation to complete your loan application. This includes a government-issued ID, proof of address, and a copy of your annuity contract. Some providers may also require proof of income to verify your ability to repay the loan. Having these on hand when you apply for your loan can help expedite the process. 

Complete lender or insurer loan application

Fill out the loan application and submit it to the insurer for direct loans or the lender for collateral-based loans. At this point, you should have the specifics related to the loan amount, repayment schedule, and interest rate, which you’ll include in your application. 

Agree to terms and receive funds

If your loan is approved, you’ll receive a loan offer or acceptance letter verifying the terms. Sign the agreement to confirm you understand the terms laid out, including repayment obligations and any potential penalties. Once the insurance company or lender receives the acceptance form, they’ll distribute the funds to the account of your choosing. 

What happens if you default on an annuity loan?

You’ll want to pay back your loan according to the terms and schedule outlined in your agreement. Failure to do so — also known as defaulting on your loan — can result in serious consequences for your retirement income and large tax implications.

Since your annuity secures the loan, the lender has the right to recover any outstanding balance directly from your annuity, either by intercepting payments or taking a lump sum from its value. Both options reduce your retirement income. They may also classify the outstanding loan as a distribution, triggering immediate tax liabilities on any gains, plus a 10% penalty if you’re under 59½. 

Costs and risks of borrowing from your annuity

Borrowing from your annuity comes with costs and risks to consider before making a decision. 

Interest rates

Annuity loans carry interest rates on the debt owed, which vary based on the insurer or lender. While the terms are can be better than those offered by personal loans or credit cards, they still add to the cost of borrowing and accrue over time, increasing the amount you owe. Before signing a loan agreement, ensure you understand how the interest rate impacts your total repayment. 

Surrender charges

To encourage long-term investing and to recoup costs, most insurers include a surrender period in the annuity contract. During this time, which can last anywhere from five to 10 years, any attempt to withdraw money from your annuity may incur surrender charges. 

Borrowing against an annuity that is still in its surrender period may trigger surrender charges, especially if you default and the lender treats the loan as a withdrawal. These fees vary, but can be as high as 20%, significantly reducing your annuity’s value and future earning potential. 

Tax implications

Using a non-qualified annuity as collateral may trigger IRS treatment as a taxable distribution. This could subject gains to ordinary income tax and a 10% penalty if you’re under 59½. 

The rules around loans against a qualified annuity are even stricter and could disqualify the account, triggering taxes on the entire value. Make sure to consult a tax advisor to ensure you understand the risks involved. 

Explore your annuity options with Gainbridge

Annuity loans can be a life-saving tool when you need fast access to cash. But there are risks involved, and you’ll have to be diligent about repaying on time to avoid defaulting and losing some or all of the value accrued in your annuity contract. By carefully reviewing your contract, understanding the terms, and seeking expert advice, you can make an informed decision that aligns with your financial goals. 

To see your annuity options with no hidden fees or commissions and in a no-hassle environment, explore Gainbridge today. We’ll show you how an annuity can help you secure a steady stream of income in your retirement years. 

‍This article is intended for informational purposes only. It is not intended to provide, and should not be interpreted as, individualized investment, legal, or tax advice. For advice concerning your own situation please contact the appropriate professional. The GainbridgeⓇ digital platform provides informational and educational resources intended only for self-directed purposes.