FIXED INDEXED ANNUITIES AND EQUITY INDEXED ANNUITIES ARE ONE AND THE SAME
A fixed index annuity is a fixed annuity that earns interest or provides benefits that are linked to the performance of a stock index (for example S&P500, NASDAQ or Dow). The value of the index might be tied to a stock or other index. One of the most commonly used indices is the Standard and Poor's 500 Composite Stock Price Index. The value of any index varies from day to day and is not predictable. When you buy a Fixed-Indexed Annuity, you own an insurance contract. You are not buying shares of any stock or index. The risk free way to link to the Participation in stock market like returns. Everyone wants to get rich in the stock market and retire in comfort, but this is far from the reality that most face. The truth is that most people go into retirement without enough money to survive without social security, and often times the money they invested in the stock market is not enough to live off. One thing that people fail to understand is that the buy and hold strategies that most stock brokers profess are only good when the economy is in an upswing. As you have probably noticed, our economy has been suffering for the last several years. Buy and Hold investors have been getting killed by the volatility of today's market. Holding a stock when it's in a downward swing is a sure way to lose your retirement savings. There is hope and there is a way to invest risk free.
With the use of a fixed index annuity, you will have the ability to take advantage of the financial markets without seeing any of the downside. A fixed index annuity is a special type of annuity where your money is directly linked to an Index such as the S&P 500. When times are rough and when most are losing money, your fixed index annuity will receive a minimum interest rate such as 1-2% based on the minimum guarantee in the product contract, but when the market is bustling you are able to take advantage of the market with a higher interest rate based on the indexing strategy chose. Making money in the stock market is all about how you handle risk and weather the storm. By limiting your risk to a bare minimum interest rate, you will NEVER lose money in the markets.
For most people, the dream of retiring with a huge investment account is not a reality. The truth is that most people never earn enough money to comfortably retire. The stock market is a risky game, and one poor year can erase all of your savings. A fixed index annuity will manage your risk for when the market isn't doing well, and a higher rate when it is doing well.
What is a Fixed Index Annuity (FIA)?
A fixed index annuity is a fixed annuity that earns interest or provides benefits that Fixed Indexed Annuity Key are linked to the performance of a stock index (for example S&P500, NASDAQ or Dow). The value of the index might be tied to a stock or other index. One of the most commonly used indices is the Standard and Poor's 500 Composite Stock Price Index. The value of any index varies from day to day and is not predictable. When you buy a Fixed Index Annuity, you own an insurance contract. You are not buying shares of any stock or index. This is an effective method to plan for retirement because it is a lower risk for you. With stocks you have an unlimited amount of returns that you can earn however investment in stocks puts you at a much higher risk. If the particular stock that you invest in happens to do poorly you risk losing all of the money that you have invested; however with a fixed index annuity this risk is eliminated. Fixed Annuities offer you the advantage of gaining higher interest than a CD can offer and they also do not expose you to the risk that comes with investment in stocks. Annuity Rates can turn out to be much higher than a CD with as much if not more security for your money. If by chance the particular investment that you made with the fixed interest annuity is not doing well you still will never lose the initial money that you have invested. If you do not need the funds to start paying out immediately, you can take advantage of a deferred annuity.
Is my principal safe?
Fixed annuities do not subject principal and credited interest to market risk (no risk to principal unless surrendered early). A fixed annuity is as safe as the insurance company issuing the annuity and insurance companies have an exceptional record of safety. Your money is also backed by the state guarantee fund and the NAIC
How could I earn zero?
The primary goal of the minimum guarantee is to protect the principal from market risk. Many companies minimize the minimum guarantee so, if the market stayed down for years, the owner would only get back their money plus a few dollars interest. By minimizing the minimum, and only crediting the minimum guarantee at the end of the term, companies can let index annuities participate in more of the possible index performance. There are index annuities that credit at least a minimum interest rate every year, others that offer the thinnest possible minimum return to maximize participation in the index, and still others in between.
What is an index annuity?
An index annuity is a fixed annuity offered by an insurance company. This index annuity earns a minimum rate of interest and offers the potential for excess interest based on the performance of an index. There are two major types of annuities in the world- fixed and variable. Variable annuities operate a lot like mutual funds in that most of the investment return (and risk) are passed to the investor. Fixed rate annuities operate more like an account at a bank paying a stated rate of interest. Fixed annuities pay a minimum guaranteed rate and the potential for more interest depending on the performance of an equity or bond index.
What are the key strengths of FIAs?
- They offer safety of principal and generally guaranteed minimum returns.
- They offer tax deferred growth.
- They have no annual contribution limits as long as they are flexible premium FIAs.
- There is a guaranteed death benefit for your beneficiaries.
- There are no penalties for mandatory distributions at age 70 ½.
- They give you the option of receiving a guaranteed income for life, called annuitization, or may offer a Guaranteed Minimum Income Benefit (GMIB) for life without having to annuitize.
- They may avoid probate.
- They allow for participation in market increase.
What are the key trade offs?
- Your participation in market increases is limited.
- Feature variations can make choosing the right FIA challenging.
- When withdrawn, earnings are taxed as ordinary income based on your tax bracket at the time of withdrawal.
- Withdrawals made prior to age 59 ½ are generally subject to a 10% penalty unless certain circumstances apply.
All Index Annuities Are Not the Same?
No. Index annuities have different penalties for early withdrawal, may offer different options for indices, and one index annuity probably credits interest at a different rate from another. Some index annuities credit interest each year, some wait until the end of a longer period, some average the index values, others set a cap or maximum on the interest that may be paid, and some guarantee all of the fees or moving parts will not change, while others have the flexibility to adjust. What this means is one company could offer 100% participation in their way of calculating interest, and still credit less interest than another company that participates in 60% of a different method. Or, a company with a 3% asset fee could pay more than another company quoting a 0% fee.
How do FIAs work?
As with fixed and variable annuities, an FIA is a contract between you and an insurance company, in which you pay premiums and the issuer promises to make periodic payments to you in the future. You can pay premiums in one lump-sum or in installments over time. What makes FIAs unique is that they offer a minimum guaranteed interest rate, but allow for the possibility of higher earnings by linking the interest rate calculation to the performance of an equity index. Interest is calculated using a formula based on changes in the index. The terms of the FIA contract dictate how interest is calculated and when it is calculated.
How are they different from other fixed annuities?
A Fixed-Indexed Annuity is different from other fixed annuity contracts because of the way it credits interest to your annuity's value. Some fixed annuities only credit interest calculated at a rate set in the contract. Fixed-indexed annuities credit interest using a formula based on changes in the index to which the annuity is linked. The formula decides how the additional interest, if any, is calculated and credited; how much additional interest you get and when you get it depends on the features of your particular annuity. The Fixed-Indexed Annuity, like other fixed annuities, also promise to pay a minimum interest rate. The rate that will be applied will not be less than this minimum guaranteed rate even if the indexed-linked interest rate is lower. The value of your annuity also will not drop below a guaranteed minimum. For example, many single premium contracts guarantee the minimum value will never be less than 90 percent of the premium paid, plus at least 3% in annual interest (less any partial withdrawals). The minimum guaranteed value is the minimum amount available at the end of the term.
What are some Fixed-Indexed Annuity contract features?
Three features that have the greatest effect on the amount of additional interest that may be credited to a Fixed-Indexed Annuity are the indexing method, participation rate and cap rate. It is important to understand these features and how they work together. The following describes some other Fixed-Indexed Annuity features that affect the index linked formula.
The indexing method means the approach used to measure the amount of change, if any, in the index. Some of the most common indexing methods, which are explained more fully later on, include annual reset (ratcheting),
high watermark, high water with look-back, short term point-to-point, long term point-to-point, monthly average, daily average and monthly cap.
The participation rate decides how much of the increase in the index will be used to calculate index - linked interest. For example, if the calculated change in the index is 10%, and the participation rate is 70%, the index linked interest rate for your annuity will be 7% (10%x.70%=7%). A company may set a different participation rate for newly issued annuities as often as each day. Therefore, the initial participation rate in your annuity will depend on when it is issued by the company. The company usually guarantees the participation rate for a specific period (from year to year or the entire period). When that period is over, the company sets a new participation rate for the next period. Some annuities guarantee that the participation rate will never be set lower than a specified minimum or higher than a specified maximum.
Cap rate or cap:
Some annuities may put an upper limit, or cap, on the index-linked interest rate. This is the maximum rate of interest the annuity will earn. In the example given above, if the annuity contract has a 7% cap rate, 7%, and not 8% could be credited. Not all annuities have a cap rate.
Floor on fixed-linked interest:
The floor is the minimum index-linked interest rate that you will earn. The most common floor is 0%. A 0% floor assures that even if the index decreases in value, the index-linked interest that you earn will be zero and not negative. As in the case of a cap, not all annuities have a stated floor on index-linked interest rates. But in all cases, your Fixed-Indexed Annuity and or fixed annuity will have a minimum guaranteed value.
In some annuities, the average of an index's value is used rather than the actual value of the index on a specified date. The index averaging may occur at the beginning, the end, or throughout the entire term of the annuity.
Some annuities pay simple interest during an index term. That means index-linked interest is added to your original premium amount, but does not compound during the term. Others pay compound interest during a term, which means that index-linked interest that has already been credited also earns interest in the future. In either case, however, the interest earned in one term is usually compounded in the next.
In some annuities, the index-linked interest rate is computed by subtracting a specific percentage from any calculated change in the index. This percentage might be instead of, or in addition to a participation rate. For example, if the calculated change in the index is 10%, your annuity might specify that 2.5% will be subtracted from the rate to determine the interest rate credited. In this example, the rate would be 7.5% (10%-2.5%=7.5%). In this example, the company subtracts the percentage only if the change in the index produces a positive interest rate.
Some annuities credit none of the index-linked interest or only part of it, if you take out all of your money before the end of the term. The percentage that is vested, or credited, generally increases as the term comes closer to its end and is always 100% at the end of the term, unless free withdrawals or loans were taken during the contract.
How do the common indexing methods differ?
Index-linked interest, if any, is determined each year by comparing the index value at the end of the contract year with the index value at the start of the contract year. Interest is added to your annuity each year during the term. The previous year's ending point is the following year's beginning point. Your gains are locked in every year.
The index-linked interest, if any, is decided by looking at the index value at various points during the term, usually the annual anniversaries of the date you bought the annuity. The interest is based on the difference between the highest index value and the index value at the start of the term. Interest is added to your annuity at the end of the term.
Long term point to point:
The index-linked interest, if any, is based on the difference between the index value at the end of the term and the index value at the start of the term. Interest is added to your annuity at the end of the term.
Short term point to point:
The index-linked interest, if any, is based on the difference between the index value at the start of the term and the value every year at each anniversary. With an annual reset these gains are locked in every year.
What are some of the features of different indexing methods?
Since the interest earned is "locked in" annually and the index value is "reset" at the end of each year, future decreases in the index will not affect the interest you have already earned. Therefore, your annuity using the annual reset method may credit more interest than annuities using other methods when the index fluctuates up and down often during the term. This design is more likely than others to give you access to index- linked interest before the term ends.
Since interest is calculated using the highest value of the index on a contract anniversary during the term, this design may credit higher interest than some other designs if the index reaches a high point early or in the middle of the term, then drops off at the end of the term.
Long term point to point:
Since interest cannot be calculated before the end of the term, use of this design may permit a higher participation rate than annuities using other designs.
Short term point to point:
Since the index-linked interest is potentially vested every year there is usually a lower participation rate or a cap.
What are some of the trade offs of different indexing methods?
Your annuity's participation rate may change each year and generally will be lower than that of other indexing methods. Also an annual reset design may use a cap or averaging to limit the total amount of interest you might earn each year.
Interest is not credited until the end of the term. In some annuities, if you surrender your annuity before the end of the term, you may not get index-linked interest for that term. In other annuities, you may receive index-linked interest, based on the highest anniversary value to date and the annuity's vesting schedule. Also, contracts with this design may have a lower participation rate that annuities using other designs or may use a cap to limit the total amount of interest you might earn.
Point to point:
Since interest is not credited until the end of the term, typically six or seven years, you may not be able to get the index-linked interest until the end of the term.
What is the impact of some other fixed index annuity product features?
Cap on interest earned:
While a cap limits the amount of interest you might earn each year, annuities with this feature may have other product features you want, such as annual interest crediting or the ability to take partial withdrawals. Also, annuities that have a cap may have a higher participation rate.
Averaging at the beginning of a term protects you from buying your annuity at a high point, which would reduce the amount of interest you might earn. Averaging at the end of the term protects you against severe declines in the index and losing index-linked interest as a result. On the other hand, averaging may reduce the amount of index-linked interest you earn when the index rises either near the start or at the end of the term.
The participation rate may vary greatly from one annuity to another and from time to time within a particular annuity. Therefore, it is important for you to know how your annuity's participation rate works with the indexing method. A high participation rate may be offset by other features, such as simple interest, averaging, or a point-to-point indexing method. On the other hand, an insurance company may offset a lower participation rate by also offering a feature such as an annual reset indexing method.
It is important for you to know whether your annuity pays a compound or simple interest during a term. While you may earn less from an annuity that pays simple interest, it may have other features you want, such as a higher participation rate.
Are dividends included in the index?
Depending on the index used, stock dividends may or may not be included in the index's value. For example, the S&P500 is a stock price index and only considers the prices of stocks. It does not recognize any dividends paid on those stocks.
Since interest is based on an index, isn't this similar to a variable annuity?
No, if a variable annuity account goes down, you could lose principal. Index annuity principal is protected from market risk - you can't lose principal if the index declines. Variable annuity gains are not locked in. Once index-linked interest is credited in an index annuity it can not be lost, even if the index declines substantially. Variable annuities also include reinvested dividends but neither the index nor index annuities reflect reinvested dividends.
So do I get all of the index gains and none of the losses?
No. It costs the insurance company to provide this protection against loss. This means that you will not fully participate in all of the gains when the market goes up, but you also will not lose principal in a falling market.
What kind of interest will I earn?
Index annuities are designed to provide a return somewhere between stock market vehicles and savings instruments, or somewhere between mutual funds and CDs. Because interest is linked to movements of an index, there could be periods when the index annuity credits double digit interest rates, and years when zero is credited. Index annuities were created with the intention of providing a more realistic potential for higher interest rates than other instruments that protect principal from market risk.
How did the bear market affect index annuities?No index annuity owner lost any principal or credited interest due to the market decline.
Do index annuities have fees?
Yes. Not in the same way that a variable annuity or a mutual fund does, but more similar to banking fees. Index annuities have penalties for early withdrawal if you surrender the annuity early. You need to match the period with your goals while keeping in mind that all annuities are designed to be long term savings instruments. If the index increases, you will not get all of the upside. This doesn't mean that the insurance company gets the other part of the increase. After protecting the minimum guarantee and covering expenses, any remaining money is used to provide the index linked interest.
What interest have index annuities actually credited?
The highest index annuity interest rate credited for one year was over 40%., but during the millennium bear market most index annuities credited 0%. Index annuities have been around since 1995, and since then, we have seen the strongest bull market in years - with five years of high double digit stock market gains, and the worst bear market in three generations. Index annuities are designed to provide a return somewhere between stock market vehicles and savings instruments and they have been performing as intended.
Can I get back less money than I put into a Fixed-Indexed Annuity?
Yes. Only If you cash in an index annuity before the term expires, or you take more than the free withdrawal amount (most cases 10% annually) allows in the contract. Surrender charges are usually deducted from the accumulated value which is the original premium plus any interest credited. If the charges are more than the accumulated value, you will get back less than you put into the annuity.
Are Fixed Index Annuities / Equity Indexed Annuities safe?
Fixed Index Annuities are Equity Index Annuities & They Are Safe:
Both principal and credited interest are protected from index declines, so the worst thing that could happen is the stock market drops for years, and you still get back your principal plus a little interest. The index annuity is as safe as the insurance company issuing it. States and independent rating firms examine financial books of insurance companies on a regular basis, and they make sure that there is enough money to cover everything, which is why you rarely hear of an insurance company going bust. If a company did go out of business, other insurance companies would assist with the annuity contracts of the troubled company. Also, every state has a guarantee fund to dip into and protect annuity contract owners, within certain limits.
How do I know which Fixed-Indexed Annuity is best for me?
As with any other insurance product, you must carefully consider your own personal situation and how you feel about the choices available. No single annuity design may have all the features or annuity rates you want. It is important to understand the features and trade offs available so you can choose the annuity that is right for you. Keep in mind that it may be misleading to compare one annuity to another unless you compare all the other features of each annuity. You must decide for yourself what combination of features makes the most sense for you. Also remember that it is not possible to predict the future behavior of an index.
FIA's / What questions should I ask my agent or company; What are the most importat questions to ask before buying an annuity?
- How long is the term?
- What is the minimum guaranteed interest rate?
- What is the participation rate? For how long is it guaranteed?
- Is there a minimum participation rate?
- Does the contract have an interest rate cap? What is it?
- Does the contract have an interest rate floor? What is it?
- Is interest rate averaging used? How does it work?
- Is interest compounded during a term?
- Are there any fees in the contract?
- What indexing method is used?
- What are the surrender charges or penalties if I want to end my contract early?
If you feel a fixed index annuity may be right for your situation; consulting with a trusted independent Safe Money Advisor will make product selection and the accomplishment of your goals easier and more beneficial. Call 877-GROW-SAFE (476-9723)