Are fixed indexed annuities a good investment? Maybe. It completely depends on your situation. We should start by defining what exactly a fixed indexed annuity is and how it pays before figuring out if they are good or bad investments.
A fixed indexed annuity is an insurance product that is offered by an insurance company. Traditional fixed annuities work like CDs. They pay a fixed interest rate and then after a certain amount of time they mature. You can have your money back, and roll it into another fixed rate. Indexed annuity rates are not fixed.
How does an indexed annuity pay interest? Caution here is needed. There are many details as to how the rate is paid each year – most pay annually. Every insurance company can have many different options even within their own company.
The interest is paid based on the performance an Index. There are many, but let’s use the S&P 500 index as an example. If the index goes up 12% then theoretically you would earn 12%. If the index goes down 12%, you would earn 0% and have no loss. The difference comes in because very few indexed annuities pay the full market return. For instance, you could have a cap – index up 12% you earn 7.5%. The cap was 7.5%. There are hundreds of different ways to calculate the actual interest earned, each having benefits and each having drawbacks. Each insurance company sets their own method of paying interest, so pay attention.
With all of these different payment options, are indexed annuities still a good investment? Think of them like tools. There are so many options now that there seems to be annuity for every situation. If one of the annuities fits your situation then it can be an amazing investment with no downside risk. But investing in an annuity that does not fit your situation can be a financial disaster. It is the same way with all types of investments, always invest for a reason.
When are fixed index annuities a good investment? They are good when:
- Your specific time horizon is long.
- You need income or safety while your investment is growing.
- You need less than 10% of your original principal each year.
- You understand that it will very likely not perform as well as the market when the market is up and will likely do much better (no losses) when the market is down. It is not invested in the market, but the performance is tied to the index's performance.
- You understand that, in general, interest is credited only one time per year. So if you are an obsessive market watcher, there will be no news at all until the annual statement comes out.
- You understand the surrender charge schedule in case you need access to principal early.
- You understand the bonus features. Some annuities have to be annuitized in some fashion to be able to use the bonus.
Also make sure the issuing insurance company has a high rating. Sometimes the same annuity can be purchased from a higher rated insurance company.
Check your state guarantees for insurance companies. Try a Google search of (your state) guarantee limits insurance companies. Do not go over these limits on a per contract basis.
As always, be sure to seek competent advice from your advisors and insurance agents before making any changes to your investment portfolios.
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