When you think of “Safe Money,” what comes to mind? Many seniors and baby boomers worry about whether they'll have the income they need in retirement. Basic living costs, medical costs, and long-term care costs are on the rise. It may be challenging to believe you'll be able to meet them and still have money for luxuries like travel and hobbies.
You can get the income you'll need by building your retirement on a "Safe Money" foundation, or prudently choosing conservative, income-generating vehicles with guarantees. There are many low-risk options which offer protection for your money, but only annuities offer you market protection and guaranteed income for life.
Understanding these differences can strengthen your decision-making and help boost your opportunities for a successful retirement.
What is a Safe Money Foundation?
When a retirement plan is built on a Safe Money Foundation, assets are allocated so there's a strategic balance of "safe," conservative vehicles and more volatile vehicles. The idea is to preserve your assets from being too exposed to market risk, or from the possibility of losses should the market decline. As people age, their "risk capacity," or actual financial ability to tangibly weather portfolio losses, declines.
For instance, some investors lost 30-40% of their portfolio value in the 2008-2009 financial crisis, and it took years to recover -- precious time for many people in retirement.
Many seniors and retirees can't afford to wait years for their portfolio to regain those losses. Could you? This "Safe Money Principle" let you keep your money safe from unnecessary losses, which certainly helps bolster financial security in retirement.
Safe Money Vehicles
When you think about keeping your money safe, what do you think of? Most people think of the banks. Some of the “Safe Money” vehicles available include bonds, bank instruments, money market accounts, annuities, and other products.
Unlike these other low-risk instruments, annuities provide contractual guarantees like guaranteed income for life. For retirees and pre-retirees interested in money growth opportunities, many people choose a fixed index annuity. Fixed index annuities also tend to offer strong growth potential with earned interest than bonds, CDs, or other low-risk options. You can let your money grow on a tax-deferred basis and enjoy a steady income stream in retirement with the fixed index annuity's contractual guarantees.
Fixed Index Annuity: Safe Money Alternative
A Fixed Index Annuity is a fixed annuity with an interest rate which is linked to the performance of an index (the S&P500® or NASDAQ® for example). The annual credited interest rate can increase depending on the index. But it can never be less than zero should there be index decline.
A fixed index annuity has many features, including participation rates, interest rate caps, and potential administration fees. It offers many benefits:
- Guaranteed income for the rest of your lifetime
- Protects your money from market downturns
- Guaranteed minimum rate of interest
- Tax-deferred growth potential
- The ability to participate in an index through an index-linked interest rate
There are also many methods used to calculate and credit interest such as the point-to-point, high-watermark, averaging, and annual reset indexing methods. Features and indexing methods directly affect a fixed index annuity's potential interest credits.
How Do Fixed Index Annuities Work?
Like with other annuities, a fixed index annuity is a contract between you and an insurance carrier. Key components include:
- You pay premiums to the insurance company
- Issuer promises to make future, periodic payments to you
- Premiums can be pay as a lump-sum or installments over time
- Has guaranteed minimum interest rate in negative index changes
- Possibility of higher interest credits with equity index-linked performance
- Interest is credited with formula based on index changes
- Contract terms dictate how interest is calculated and when
The insurance carrier has cost to cover this protection against loss, so you don’t get all the index growth. So you won’t lose principal in a falling market, but you won’t fully benefit from this growth. Keep in mind: If you're looking to build your retirement plan on a Safe Money Foundation, a fixed index annuity may be the right solution for preserving your money from market losses.
Who Buys a Fixed Index Annuity?
People purchase a fixed index annuity because of the market protection it offers, its guaranteed income benefits, and/or its growth potential. They aren’t satisfied with the limited growth from their CDs and annuity rates that are fixed, and don't have the time for the stock market.
If you have sufficient time to recover from potential losses, direct stock market investments may be more appealing than a fixed index annuity. However, if your time frame is too short to recover from losses due to financial market declines, or you simply don't like the idea of possibly losing principal, a fixed index annuity is used as an alternative vehicle to bank instruments, fixed rate annuities, bonds and mutual funds.
If you can be okay with waiting for complete access to money and still need this to be fixed, try a deferred annuity.
Are Fixed Index Annuities Like Variable Annuities?
No! If a variable annuity account goes down, you could lose principal. Fixed index annuity principal is protected from negative index changes - you can't lose principal if the index declines. On other other hand, variable annuity principal and interest credits aren't locked in.
Once index-linked interest is credited in an index annuity, it can’t be lost, even if the index declines substantially. Variable annuities also include reinvested dividends. However, neither the index nor index annuities reflect the reallocated dividends.
What is the Growth Potential?
Generally speaking, fixed index annuities may offer future income value growth between 5 and 10% annually (or the value used to determine the income you'll receive at annuitization). Keep in mind they’re designed to offer growth potential 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 fixed 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 money from market risk.
Questions to Ask Your Advisor
Not all fixed index annuities, or all annuities for that matter, are equal in the value they deliver. They greatly differ in their features, which deliver varying levels of consumer benefit. Before making a purchase, ask your advisor:
- Is this a single premium or flexible premium contract?
- Is this a Fixed-Indexed Annuity?
- What is the initial interest rate and how long is it guaranteed?
- Does the initial rate include a bonus rate, and how much is the bonus?
- What is the guaranteed minimum interest rate?
- What renewal rate is the company crediting on annuity contracts of the same type that were issued last year?
- Are there withdrawals, surrender charges or penalties if I want to end my contract early and take out all of my money? If so, how much are they?
- Can I get a partial withdrawal without paying surrender charges for reasons such as death, confinement in a nursing home, or terminal illness?
- Is there a market value adjustment (MVA) provision in my annuity?
- What other charges, if any, may be deducted from my premium or contract value?
- If I pick a shorter or longer payout period or surrender the annuity, will the accumulated value or the way interest is credited change?
- Is there a death benefit? How is it set? Can it change?
- What income payment options can I choose? Once I choose one payment option, can it be changed?
The diversification of your money is one of the most important concepts to understand within your financial plan.
If you feel a fixed index annuity may be right for your situation; consulting with a knowledgeable, independent Safe Money Advisor could make product selection and the accomplishment of your goals easier and more beneficial.
Have Questions or Need Assistance? Call us today at 877.GROW.SAFE (877.476.9723) for immediate support!