Fixed index annuities , or FIAs, can provide a wide variety of benefits to those who are approaching retirement. One of the biggest of these advantages can be a guaranteed lifetime income – regardless of how long the individual lives.
In addition, unlike most other tax-deferred retirement plans like an IRA or a 401(k) plan, an annuity does not have annual contribution limitations – meaning that it’s holder can deposit a great deal more into these vehicles, and in turn, receive the added benefit of tax-deferred compounding on the funds inside.
Yet, while there are numerous benefits to owning an FIA, there are other attributes about these financial vehicles that a potential purchaser needs to know. Having a more thorough understanding of the inner workings of a FIA can help to avoid misunderstandings about what is occurring with an investor’s funds – and in the long run, help to make owning an FIA that much more beneficial.
What You Need to Know About Fixed Index Annuities Prior to Moving Forward
1. An interest rate cap may be used in determining the FIA holder’s overall return.
There are certain types of fixed index annuities that will set a maximum rate of interest that the annuity can earn within a certain period of time. This is also referred to as a cap rate. Should the FIA holder choose an index that’s increase is more than the cap amount, then the cap rate will be used in determining the annuity holder’s rate of interest.
2. A participation rate may be used in determining how much of the gain in the underlying index will be credited to the annuity.
The annuity’s participation rate will determine how much of the underlying index’s increase will be used in computing the indexed interest rate. As an example, if an FIA holder’s annuity uses a participation rate of 90%, then the annuity would receive 90% of the interest that is achieved within a certain time period.
3. With some FIAs, a spread is used for determining the return.
In some cases, the indexed interest amount will be determined by subtracting a certain percentage from any gain that the underlying index achieves within a certain period of time. For example, should the annuity have a spread of 4% and the index increases by 9%, then the annuity would be credited with 5% indexed interest.
4. Be sure to understand surrender charges.
Just as with other types of annuities, FIAs will also possess surrender charges within the first several years of ownership. Therefore, the money that is deposited into a fixed index annuity should be considered a long-term investment.
5. The guarantees of the FIA are backed by the financial strength and the claims-paying ability of the underlying insurer.
Just as with all other types of insurance products, any of the guarantees that are offered by the fixed annuity will be subject to the financial strength and the claims-paying ability of the underlying insurance company. Therefore, it will be important to be aware of the insurer’s reputation for paying out its claims to its policy holders.
One of the best ways of shopping for a fixed index annuity is to work with an independent agency that has access to multiple insurance carriers. This way, you will be able to compare – in an unbiased manner – a number of options all in one single location.