Variable Annuities for Physicians: Fee Analysis and When They Make Sense

If you're an attending physician who has been pitched a variable annuity — often framed as "tax-advantaged investing" or "guaranteed lifetime income" — you're not alone. High-income physicians are among the most heavily targeted groups for these products. This guide breaks down exactly how variable annuities work, what they cost in fees and taxes, and the narrow set of circumstances where they are a legitimate tool.

What is a variable annuity?

A variable annuity is an insurance contract with an embedded investment component. You invest in "subaccounts" (mutual fund-like portfolios offered by the insurance company) inside an insurance wrapper that provides:

• Tax deferral: gains inside the annuity aren't taxed until you withdraw them.
• Optional riders: add-on benefits like guaranteed lifetime income, guaranteed minimum death benefits, or return-of-premium promises — each with an extra fee.
• Insurance features: a death benefit, often equal to at least the amount you invested.

The appeal to physicians is straightforward: you're in the 37% tax bracket, you've already maxed your 401(k) and backdoor Roth, and tax deferral on additional savings sounds compelling. The problem is that the costs — both the fees and the tax treatment at distribution — typically eliminate any benefit the deferral would have provided.

The full fee anatomy

Variable annuity fees are layered. Most illustrations show only one or two of these layers. Here's the complete picture:

A typical physician-targeted product with the M&E, fund expenses, and a GLWB rider runs 2.5%–4.0% per year in ongoing fees, versus 0.03%–0.10% for a broad-market index fund in a taxable brokerage. On a $500,000 annuity, that's $12,500–$20,000 per year in fees that compound against you.

The tax trap variable annuity illustrations hide

This is the critical point most presentations don't show you: gains inside a variable annuity are taxed as ordinary income at distribution — not as long-term capital gains.¹

For a physician in the 37% federal bracket, this matters enormously:

For most physicians, a variable annuity delivers the worst of both worlds: high ongoing fees AND ordinary-income tax treatment on gains, versus a taxable index fund which has minimal fees AND long-term capital gains treatment. The annuity's tax deferral has to overcome both the fee drag and the rate differential — which it rarely does for long time horizons in the 37% bracket.

Additionally: all gains must be withdrawn before principal (the "LIFO" rule under IRC §72), withdrawals before age 59½ face a 10% penalty on the gain portion,¹ and heirs who inherit an annuity don't get the step-up in cost basis that a taxable brokerage provides.

Riders: what they cost and what they actually guarantee

Guaranteed Lifetime Withdrawal Benefit (GLWB): typically 0.75%–1.50%/yr. Guarantees you can withdraw 4%–6% of a "benefit base" (often a separate accounting value, not your actual account value) each year for life. The fine print: the benefit base can diverge significantly from your real account value; the withdrawal percentage is fixed and inflation erodes its purchasing power over decades.

Guaranteed Minimum Death Benefit (GMDB): typically 0.25%–0.75%/yr. Guarantees heirs receive at least the amount invested even if markets decline. Rational if you expect to die shortly after buying — not a compelling value proposition for a 40-year-old physician with a 40-year time horizon.

Return of Premium rider: guarantees that if you die, beneficiaries receive at least your original premium back. Costs 0.20%–0.50%/yr. Versus simply holding index funds in a taxable account, which would likely return far more than the original premium over any meaningful period.

Riders are typically difficult or impossible to remove once purchased. They are also charged against the total account value — so as the account grows, the dollar cost of a percentage-based rider increases every year.

Surrender charges and illiquidity

Variable annuities typically impose surrender charges for 5–8 years after purchase. A common schedule:

• Year 1: 7–8% penalty on withdrawals exceeding the free withdrawal amount
• Years 2–5: declining by 1% per year (e.g., 6%, 5%, 4%, 3%)
• Years 6–7: 2%, 1%
• Year 8+: surrender period ends

Most contracts allow a free withdrawal of 10%/yr without surrender charges. But for a physician who experiences an income shock — disability, burnout leave, practice transition — and needs more than 10% of the account, the surrender charge creates a genuine liquidity trap at exactly the wrong moment.

When a variable annuity could make sense

There is a narrow set of scenarios where a variable annuity is a rational tool:

• You've genuinely maxed every other tax-advantaged vehicle: 401(k)/403(b) + 457(b) + backdoor Roth IRA + HSA + spouse's equivalent. You're investing meaningfully in a taxable brokerage, and you still have excess savings you won't need for 20+ years. The deferral benefit requires a long time horizon to have a chance of overcoming fee drag.
• You're in a state with no income tax or a low income-tax rate, and the federal bracket differential between ordinary income and LTCG is the primary concern. Even then, the fee math is usually unfavorable.
• Creditor protection in specific states: some states (Florida, Texas, others) protect annuity values from creditors. For a physician with significant malpractice exposure and insufficient ERISA-protected retirement assets, this can be a legitimate rationale. Consult a physician asset-protection attorney before relying on this.
• Single-premium immediate annuities (SPIAs) in retirement: a SPIA converts a lump sum into guaranteed income for life, hedging longevity risk. This is fundamentally different from a variable annuity. For a physician who wants guaranteed income beyond Social Security, a SPIA purchased at 70–75 with a small portion of assets (5–15%) can be legitimate financial planning. This is not the product being pitched to 40-year-old attendings.

The variable annuities marketed to physicians in their peak earning years do not typically fit any of these categories.

Fixed indexed annuities (FIAs)

Fixed indexed annuities are often pitched as a "safer" alternative to variable annuities. They credit interest based on an index (typically S&P 500) with a cap rate (e.g., "up to 10% per year") and a floor (typically 0% — you won't lose principal). The pitch: market-linked upside with no downside. The reality:

• Caps and participation rates are set by the insurer and can be reduced after purchase.
• The index calculation typically excludes dividends, which account for roughly 40% of long-run stock market returns.
• Surrender charges are typically longer (8–10 years) and more restrictive than variable annuities.
• While M&E fees are lower than VAs (often 0%–0.5%), riders add similar fee drag.
• Gains are still taxed as ordinary income at distribution.

For a physician who is genuinely risk-averse and within 5–10 years of retirement, an FIA with no riders and a short surrender period can occasionally make sense as a fixed-income substitute. But it is not a growth vehicle and should not be presented as one.

Already own a variable annuity?

If you already purchased a variable annuity, the question is whether to keep it or surrender it. This requires case-by-case analysis:

• Surrender period still active: the charge to exit is real. Model whether the ongoing fee drag (often $10K–$20K/yr on a $500K annuity) exceeds the surrender charge over the expected holding period. If you're in year 2 of a 7-year surrender schedule with a 6% charge on $500K ($30,000), that charge will be recovered in 2–3 years of fee savings by exiting — depending on your product's actual fees.
• Surrender period expired: if the product has no GLWB rider you're relying on, surrender is often the right call. You'll owe ordinary income tax on gains at surrender, but the ongoing fee drag makes staying expensive.
• Unrealized gains inside the annuity: exiting triggers recognition as ordinary income. If gains are large and your current marginal rate is high, a 1035 exchange into a lower-cost VA or deferred income annuity can preserve deferral while reducing fees.

A fee-only advisor with no insurance license can run this analysis without any incentive to keep you in the product or move you to another one.

What to do instead

For the vast majority of physicians:

1. Max your employer plan first: 403(b)/401(k) + 457(b) if available — up to $49,000 in combined deferrals for most hospital physicians, or $72,500 for practice owners with a solo 401(k).
2. Backdoor Roth IRA ($7,500/person for 2026). If you have a 403(b) or employer plan available for pro-rata resolution, do this every year.
3. HSA if on an HDHP ($8,750 family limit for 2026): triple tax advantage, invest and let it grow.
4. Taxable brokerage with broad-market index funds: at a 0.03%–0.10% expense ratio. Long-term gains are taxed at 23.8% for physician-income earners, not 37%. No surrender period. Step-up in basis at death. Full liquidity. Tax-loss harvesting available.
5. If you truly want income guarantees in retirement: revisit a SPIA at age 70 with 5–15% of your liquid assets, after your portfolio is built.