Have you ever heard of a market value adjusted annuity? If you are planning for your retirement income, then you may be considering an annuity as one of your options. Of course, there is a number of possibilities when it comes to purchasing annuities. So, it is important to understand clearly what annuities are so you can make sound financial decisions.
In cases when you are looking for tax deferral and an instrument which can offer safe growth and reliable future income, a fixed annuity can be the perfect option. These typically entail an average contract of seven to twelve years and guarantee a minimum annual interest rate. While the duration of the contract and interest rates are important to consider, you should also take into account whether the annuity is subject to a Market Value Adjustment (MVA). It’s common for an MVA to be attached to fixed annuities, and as you probably noticed, it’s these contracts with an MVA that are called “market value adjusted annuities.”
Before making a decision, it’s important to know what a market value adjusted annuity is. So, let’s get into it.
Understanding Market Value Adjustments
You are likely to notice that MVA annuities provide higher interest rates than regular fixed annuities. This is due to the fact that by including a market value adjustment in the agreement, the insurance company is able to share some of the risk of its investments with the annuity owner. That said, the risk only comes into play if you withdraw more than the permitted annual amount before your surrender period is up – or you end your contract, again, before the surrender period is over.
Typically, an insurance company will allocate a majority of your annuity premium in low-risk, long-term bonds or similar instruments, thus generating an interest rate and promising a specific interest rate to you over time. Over a longer period of time, market fluctuations do not have a significant impact on the interest earnings. However, if you decide to pull your money out earlier and the interest rates have gone up, then the insurance company would lose money. Therefore, it uses market value adjustments as a way to protect its interests. And in turn, it helps it fulfill its contractual promises made to you.
Benefits of an MVA Annuity
One of the principal benefits of a market value adjusted annuity is the fact that it typically offers higher interest rates compared to other fixed annuities. At the same time, annuities in general may offer better interest-earning possibilities than other safe financial instruments, such as certificates of deposit.
Generally speaking, there are two basic types of interest rate structures for fixed annuities. A multi-year guaranteed fixed rate, where you may receive a higher rate during the first year and then a specified guaranteed rate over the upcoming years, generally slightly lower than at the beginning. An example of this could be 5% in the first year and 3% in the following years. This gives you a guaranteed blended rate over the entire investment period and is generally the more recommended route.
On the other hand, you can opt for a banded interest rate, which will typically mean a significantly higher first year rate, and a guaranteed minimum rate that can fluctuate during the rest of the contract term. In this case, the percentages could look something like 7% for the first year and 2% going forward.
Additionally, just like other fixed annuities, market value adjusted annuities are low-risk instruments that grow tax-deferred. This means that you are not taxed on the interest rate until you withdraw the interest earnings. If you are in a lower tax bracket after retirement than you are while being employed, then this will allow you to potentially lower your tax burden.
What Are the Downsides of a Market Value Adjusted Annuity?
A life insurance company is able to offer higher interest rates on an MVA annuity because of the shared risk. What exactly does this mean for you?
If you are absolutely certain that you will not need to withdraw your money before the surrender period is up, then you are partially “in the clear.” However, this is often a difficult commitment to make. Depending on the specific contract, and its terms and conditions, you will typically be able to withdraw 10% of your contract value annually without any extra charges before your surrender period is up. Anything above that will typically incur a surrender charge. With an MVA annuity, you run the risk of paying a higher surrender charge depending on the behavior of the interest rate market.
For example, if you put in $100,000 at an interest rate of 5%, but the interest rate rose the next year to 6%, then your contract would have lost value at that given moment. In this case, if you wanted to withdraw your money, the insurance company would charge an additional penalty.
On the other hand, it’s possible that interest rates could go down, which would actually increase the value of your contract. However, if you still wanted to take out your money before the surrender period was over, you would still incur a surrender charge.
Some Final Thoughts about Market Value Adjusted Annuities
If you are looking for a low-risk, long-term strategy to prepare you for retirement, then an MVA annuity may be a possible solution for you. To make a well-informed decision, consider factors such as your financial liquidity, the amount of time you are willing to “lock up” your money for, and the potential risk you are open to if you do need to withdraw your funds early from an MVA annuity.
Of course, it is also important to shop around for the best guarantees and benefits that the different insurance providers can offer in your specific financial situation. Working with a knowledgeable financial professional who understands retirement, income, and annuities can help strengthen your financial situation.
When you are ready for personal guidance, financial professionals at SafeMoney.com can assist you. Use our “Find a Financial Professional” section to connect with someone directly, and to request a no-obligation goal-setting appointment. Should you need a personal referral, please call us at 877.476.9723.