Fixed index annuities (or equity-indexed annuities) are a special type of fixed annuity that offer annuity investors guaranteed principal and market-type returns. A fixed indexed annuity therefore bears benefits of fixed annuities and investment in select securities. As a fixed annuity, the equity-indexed annuity differs from the often-maligned variable annuity. Several equity-indexed annuity benefits reflect these fundamental differences.
Market-type returns
Fixed index annuities earn interest based on an external market index (like the S&P 500). The annuity provider issues returns after deducting costs. No matter what method the annuity provider uses, the annuity investor benefits by participating in securities investment. The returns from the fixed index annuity typically fluctuate above the minimum guaranteed rate because of the link to the market index. This often results in higher returns than fixed-rate annuities.
Diversified annuity investment
The way the fixed index annuity operates ensures that annuity investors maintain a diversified portfolio. The level of diversification depends heavily on the annuity provider’s participation in the index. The diversified portfolio allows the risk to be spread such that the fortunes of the fixed indexed annuity loosely mirror that of a typically successful external index.
Guarantee of principal and interest
As a fixed annuity, a fixed immediate annuity offers minimum rates of return and assurances on premium contributions. The guarantees insulate the annuity investor from losses, since there is a slim chance that the external index may fail appreciably. This is what makes the equity-indexed annuity different from the variable annuity or a typical mutual fund investment.
Potentially higher guaranteed lifetime income
Like other annuities, one of the principal purposes of the fixed index annuity is provision of guaranteed lifetime income for annuitants. The superior accumulation of the fixed index annuity creates a higher cash value at maturity. When the annuity provider purchases an immediate annuity with the cash value from the equity-indexed annuity, the payouts are likely to be higher.
Tax incentives
Qualified fixed index annuities offer tax-deferred growth on retirement savings with tax relief on contributions as an added incentive. This eliminates the tax risk from investment in a fixed index annuity. One result is that the annuity contract owners accumulate thousands of dollars more than they would have by investing through mutual funds and other growth options.
Fixed index annuities are generally beneficial financial products that offer protection and growth- investment aims that are often on opposite ends of the risk-return trade-off. However, insurers or annuity providers offer different propositions with their financial products. Therefore, to maximize your benefit from investing in a fixed immediate annuity, it is important to know how the annuity provider determines and applies returns on this product.