A fixed indexed annuity is a contract set between you and an insurance company, designed to help you achieve your long-term investment goals for retirement.
If you’re looking to learn more about different types of annuities, you have come to the right spot. In this blog, we’ll break down how having a fixed indexed annuity can be used as a wealth-building tool in an investment portfolio, how it can help you safely grow your investment, and why it works so well in preparing for retirement. A fixed indexed annuity is a contract set between you and an insurance company, designed to help you achieve your long-term investment goals for retirement.
Explained, here is how a fixed-indexed annuity works. In exchange for your premium payment, the insurance company will provide you with growth, using the strategies you have chosen to grow your principle investment. In addition to investment growth, if you designed your annuity to offer income, the annuity company will use your premium and interest accumulation to pay you an income payment. It will then begin at a specified time in the future according to your policy specifications, and last for as long as you chose when you built your policy structure.
The primary benefits of using a fixed indexed annuity as an investment strategy are; the principle and the credited interest built by benefiting from market gains are protected against any market losses. Also, earnings and interest you receive are tax-deferred, and if desired, can provide you guaranteed lifetime income to you and your policy’s beneficiaries. The issuing insurance company will back these guarantees, offering safety and security, ensuring peace of mind investment strategies. For more information on fixed indexed annuities, read on!
The Two Phases of the Fixed Indexed Annuity:
There are two different phases to the Fixed Indexed Annuity, known as the accumulation phase, and the payout or distribution phase.
The Accumulation Phase
The accumulation phase typically set as five to ten years, starts when you purchase the annuity policy. During this phase, your account value will earn interest based partly on a fixed interest guarantee, and partially on the gains in a stock market index, such as the S&P 500 Index. The interest that is credited to your account is not taxed until the distribution phase when you receive a payout. This ensures that the full benefit of compounding interest is gained. If a financial emergency happens during this phase, some fraction, typically about 10% of the total premiums, can be withdrawn without any surrender charge. Still, a more significant or full withdrawal will usually incur surrender charges (many annuities offer long term care and terminal illness riders, and will waive most if not all surrender charges in the event of one of these types of occurrences). The amount of surrender charges decreases the longer the fixed-indexed annuity is held.
The Distribution Phase
The distribution phase starts when you decide to receive income from your annuity. Many payout plans are available, including fixed guaranteed monthly, quarterly, semi-annual, or annual payouts during your entire lifetime, a lump-sum payout, payouts to beneficiaries after you pass, and nursing home benefits. You decide the very best method of the distribution based on your overall needs, now, and in the future. Regardless of your choice of payment plans and life expectancy, you or your beneficiary could be guaranteed a total payout equal to all your premiums and interest earnings gained during your annuity. An essential optional feature might be the death benefit. This benefit states that if you pass away before you start receiving payouts from your account, your beneficiary could receive either fixed payments from your account or the value in one lump sum payment. If you outlive your annuity’s life expectancy, most fixed-indexed annuity contracts will keep your income payment until you pass. This means that even if you do not have any principle or interest accumulation left in your policy, the annuity company, according to the contract, will still have the requirement to pay you your income payments specified in your policy until your passing.
Investing in an Index
What is an index, how does it relate to the stock market, and why is an annuity protected from stock market losses? Annuities are sophisticated investment tools that have many moving parts. A fixed-indexed annuity has a unique growth instrument used to ensure the growth of principle but not at risk of loss in a down market season.
An index is set up as a group of many companies that all offer stock options in the stock market. The companies have chosen to be added to the index, typically, have a standard feature. This feature or set of features is used to ensure the growth of the index. This strategy is successful because if one company fails, other companies can make up for the losses of the failing company. This grouping together strategy is used in building an index and helps the index against market losses.
When investing in an annuity, the annuity is using the index. It will build interest in your policies principle investment, by mirroring the success of the index you have chosen in your investment portfolio. The growth will depend on how the index has succeeded in the time specified in your portfolio contract. This strategy can be set up in many different ways. An example can be from point one to point two, points being a year apart, two years apart, a month apart, or however you choose, using options offered during your portfolio set up. This setup, and your index strategy, can be changed at different time periods throughout your annuity contract. Your specific annuity might have a cap on the amount that can be credited or may even have a participation percentage that will only allow you to utilize as participating money in your investment strategy.
Participation Rate
Many fixed indexed annuities have a participation rate that defines what percentage of the index gain is allowed to be applied to your account. In the case of a 10% gain in the index, if the participation rate was 80%, then credited interest of 8% gain in the index would be applied to your account. It’s possible to have both a cap and a participation rate that could be used after the cap rate was applied.
Cap Rate
A cap rate is a maximum amount the insurance carrier will allow your investment to grow, using the strategies chosen in your investment portfolio. This means that if the index you have chosen grows past the cap, the annuity carrier will only credit your annuity the capped rate of the allowed specified strategy.
Fixed Indexed Annuities in a Down Market
What happens to your annuity in a down or flat market? Nothing!!! There will be zero loss and zero accumulation if the index chosen has not performed. This means that using the point-to-point strategy, if the index is chosen has not performed or even lost gains, the principle and interest gain your annuity accumulated throughout your contract’s lifetime will never be lost. If the market gains, the annuity will earn interest credit, and if the market is flat or a down market occurred, there will be no gain, and the annuity will stay at the level it has accumulated to from past gains.
Growth Annuities Vs. Income Annuities
Using an annuity for retirement can be very beneficial. If you save for your retirement years and don’t want the risks of being exposed to stock market losses, an annuity is a fantastic tool to grow your nest egg. While you do not need the money you are investing, the annuity will grow your principle. This will happen in a tax-deferred status, which means that any accumulated interest will compound and build upon the interest and principle the annuity has gained. The annuity will grow using the strategies chosen and will continue growing for as long as the contract states. If you do not need income, you do not have to take income from your annuity, and the annuity will grow, without market risks for as long as the contract will allow. Suppose you decide that you are only interested in investing the money for growth and do not need the income for the annuity contract’s lifetime. In that case, it is a good idea to use an annuity that is intended for growth. This type of annuity is built to be utilized as a growth product and will have the best strategies for growing your principle as fast as possible.
If you need income from the annuity, the income can be set up to start and last a specified period. This period can last for a timeframe specified by you, when building the annuity, and can even last for your whole lifetime. The annuity can be set up to transfer to a spouse or loved one in the event of your passing and will allow for beneficiaries named to be added to the policy. These beneficiaries will receive the death benefit of your annuity contract without the hassles and expense of probate. If you decide that you intend to take income from your annuity, it is good to research the most applicable annuity structure, which will best fit your individual needs. Income annuity products may be different than growth annuities. They may have a structure created explicitly for the best results, for receiving as much income as possible, during the specified income period.
Benefits and Beyond
As you can see after reading this blog, fixed-indexed annuities are an amazing investment approach when planning your retirement portfolio and investment strategies. Unlimited growth potential, tax-deferred status, no stock market risks, never a loss in principle or interest gained, probate free death benefits, safety and security, and guaranteed income. If you’re closing in on the age of retirement, why would you even consider placing another dollar into the risky stock market? Using an annuity for growth is a great way to save for retirement, live in retirement, and pass your accumulated lifetime wealth to your loved ones.
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