What is an index annuity?
There are 3 major types of annuities in the world fixed, income, and variable. An indexed annuity is a type of deferred annuity whose return is directly tied to the performance of a particular market index. Your investment is usually protected against market downturns, in that most products, you are guaranteed to never have a return below 0%. However, your earnings are generally capped at a certain amount, so any index gains that are above the stated maximum percentage are not credited to your annual return.
Isn’t this like a variable annuity since interest is based on an index?
No. Variable annuities, for the most part, do not offer you the downside protection that is found with an IA. As mentioned above, index annuity money is protected from market losses – if the markets go down, you can’t lose money. Generally speaking, most variable annuity gains are not locked in after an up year. Once index interest is credited in an IA it cannot be lost, even if the index goes down the following year.
So do participate in all of the index gains and none of the losses?
No. You can’t have your cake and eat it too. The insurance company incurs costs and fees in order to provide this protection against loss. As a result, you won’t fully participate in the full upside when the market increases, but you also won’t lose any money in a falling market.
What kind of interest could I expect earn?
As a general rule of thumb, we try to gain about 2% more on average than you could in a another type of interest bearing account such as a CD or Bond fund. Keep in mind that an annuity gives you tax deferred growth on the gains, so your equivalent taxable yield is much higher.
How could I earn zero?
A major intention of the minimum guarantee is to protect the principal from market losses. As previously mentioned, the worst return an index annuity owner would be to get a 0% return on their annual statement. This is actually a positive thing since the market would most likely have been down ifyou earned 0%.
Do index annuities have fees?
Not like a variable annuity or mutual fund does, bur more like the method a bank does it with CD’s.Index annuities have penalties and surrender fees if you wanted to get all of your money out beforethe end of the term, so you need to match the number of annuity years with your goals. Please keep in mind that all annuities are intended to be long term instruments, so do not let a surrender fee freak you out.
Are index annuities safe?
Your principal and gains are protected from index declines, so worst case would be if the index drops for a prolonged period of time and you still get back your principal plus your guaranteed interest. The annuity contract is as safe as the insurance company backing the product.
What if a company does go belly up?
An annuity contract is a product of the insurance company, and in the past another company has bought the annuity contracts of the problem company and everything stays virtually the same. As added protection, every state has a guarantee fund to dip protect annuity contract owners (up to a certain limit) if a company goes under. In theory, it is possible to lose some of your money if an insurance company fails, however, based on history it is not very likely.
Who buys an index annuity?
Most investors buy an index annuity because they want the potential to get higher returns than they might make from another savings vehicle. If you have a long enough time horizon to recover from potential losses, direct stock market investments should give you a higher return than index annuities. However, if your planning goals are too short to recover from a possible bad market, or you simply don’t like the idea of possibly losing principal, index annuities are used as an alternative savings vehicle to bank instruments, fixed rate annuities, bonds and bond mutual funds
