I have a $100K variable annuity in my IRA: should I withdraw from it first in retirement?

David from Marana, Arizona called into Talking Real Money with a question many retirees carry quietly. “I have a $100,000 variable annuity as part of my traditional individual retirement account held at Edward Jones.” His question was simple: when retirement starts, does he tap the annuity first or the rest of the IRA?

Host Don McDonald did not weigh the two options evenly. “This question I haven’t considered because I never ever suggest anyone have a variable annuity in their account,” he said. His final recommendation was four words: “Just take the annuity first.”

If you hold a similar product, the stakes are real. A variable annuity wrapped inside an IRA can cost you tens of thousands of dollars over a 20-year retirement.

The verdict: McDonald is right

The core problem is paying twice for the same benefit. An IRA already shelters investments from annual taxes. A variable annuity’s main selling point is also tax deferral. Putting one inside the other is redundant.

Worse, you forfeit a tax advantage you would otherwise have. As McDonald put it: “If you put this money in an ETF without an IRA around it, you would only be paying taxes at your capital gains rate on the growth. With the variable annuity, yeah, you got tax deferral, but now every penny that comes out gets taxed as ordinary income. So it’s a much higher hit for most people who have a decent portfolio.”

Then there is the fee stack. McDonald estimated the all-in drag: “you also have the expenses and mortality charges of the annuity, which could run your expenses up to 3% per year, which is just stupid high.”

Here is what 3% annually does to David’s $100,000. Assume underlying funds earn 7% gross. After the annuity skim, he keeps 4% net. Over 20 years, $100,000 growing at 7% becomes roughly $387,000. The same $100,000 at 4% net becomes about $219,000. The fee load erases more than $168,000 of growth on a single $100,000 starting balance.

The opportunity cost is sharper today than in years past. The 10-year Treasury is yielding roughly 4.4%, sitting near the top of its 12-month range. A retiree inside an IRA can buy that Treasury and clear roughly the same yield the annuity’s expenses consume every year.

The one variable that could change the answer

One thing should make you pause before withdrawing: a guaranteed income or guaranteed withdrawal benefit rider with a benefit base materially higher than the contract value.

Say David’s $100,000 contract has a guaranteed benefit base of $160,000 from earlier highs. If the rider promises a 5% lifetime payout on the benefit base, that is $8,000 annually for life, calculated off the higher benefit base rather than the actual $100,000. Surrendering forfeits the higher number. In that scenario, McDonald’s advice flips, and you should price what the rider is worth before withdrawing.

If there is no living benefit rider, or the benefit base equals the account value, drain it first. The fee drag is pure leakage.

What to do this week

1. Request the prospectus and current statement. Ask Edward Jones in writing for the total expense ratio, mortality and expense (M&E) charge, rider charges, and any surrender schedule still in force.
2. Compare the benefit base to contract value. If they are within a few thousand dollars, the rider is not protecting much.
3. Check surrender charges. Most variable annuities run a 7-year schedule. If David is past it, exits are free. If not, calculate whether one more year of 3% fees costs more than the surrender penalty.
4. Sequence withdrawals. In retirement, pull from the annuity first until drained, then continue with the rest of the IRA. Every dollar leaving the annuity stops feeding the fee machine.
5. Consider a 1035 exchange as a fallback. If surrender charges make immediate withdrawal painful, a tax-free 1035 exchange into a low-cost annuity from Fidelity or Vanguard can cut annual costs while you wait out the schedule.

David asked which bucket to empty first. McDonald gave the right answer, and the reason holds for almost anyone in the same spot: you are renting tax deferral you already own, and the rent is up to 3% a year. Empty that bucket first.