Pros and Cons of Fixed Indexed Annuities

The pros and cons of any product are directly related to how you use that product. With fixed indexed annuities it all depends on your goals and whether this type of annuity can help you meet those goals.

And when it comes to solving retirement problems, in every case there exists a “best” way to get things done. Sometimes you need to disprove conventional knowledge to find it.

There is a way that 99% of the industry prefers to sell fixed indexed annuities. That works for some people but most often it is not the “best” way to solve your problems.

PROS AND CONS OF FIXED INDEXED ANNUITIES:

Pros

  • You will never lose money

  • Earnings guaranteed against loss

  • Risk-free option to track the performance of a stock market index

  • Access to funds and protection from interest rate risk

  • Overabundance of indices to choose from

Cons

  • Limited growth

  • Most interest is credited once per year

  • Participation rates might not be up to you expectations

  • Your money is locked for extended periods of time

Each of the individual components of a fixed indexed annuity can be seen as a pro or a con, depending on your expectations and goals. Let’s look at each of the major components and the positive vs. negative attributes of each.

Safety:

Pro- You will never lose money. The insurance company invests your premium in a portfolio of safe investments and backs it up even further with substantial company reserves giving your money the protection and guarantee that you need.

Con- The cost for safety is limited growth and there are those that don’t mind risk in return for unlimited growth potential.

Earnings Guaranteed:

Pro- Once interest is credited to your account it is also guaranteed against loss. Protected principal and earnings are a powerful benefit that pays off when markets are volatile.

Con- Most interest is credited once per year, although there are options for two and three-year crediting as well. This means your earnings potential depends on how the market finishes on a single day. A significant drop in the market at the end of your crediting period can wipe out expected gains. That can be positive as well but it’s important to not place all your expectations on a single year.

Caps, Participation Rates, and Spreads:

Pro- You get a risk-free option to track the performance of a stock market index. Option costs dictate how much of that gain you receive. Specifics go deeper but the benefit is that you will experience yields that are far greater than any safe asset.

Con- Again, it all speaks to expectations. If you think you can buy your own options and do better then go for it.

Surrender Periods:

Pro- This is all relative to other safe money options. CDs and Bonds have some long commitments as well but the annuity comes with access to funds and protection from interest rate risk.

Con- Many supposed experts tell you not to lock money up for extended periods of time. It all depends on your plans for the money so if you need more than the annual free withdrawal to meet your needs then an annuity is not right for you.

Indices and Crediting Methods:

Pro- Considering the entire annuity market, you have an overabundance of indices to choose from and crediting methods to use so no matter what your preference, there is an option available that will work for you.

The Basics of How Indexed Annuities Work

The AST Flex Strategy helps you understand the pros and cons of fixed indexed annuities.

Indexed Annuities, Fixed Indexed Annuities, and Equity Indexed Annuities, all mean the same thing. These are all the same insurance products with different labels, but the correct name is a ‘Fixed Indexed Annuity’.

Fixed Indexed Annuities are nothing more than fixed annuities with a different method of crediting interest. With a fixed annuity, which is a lot like a CD, the contract owner receives a stated rate of interest each year.

But with an Indexed Annuity, the appreciation rate is calculated based on growth in an outside market index, like the S+P 500 or the Dow Jones index.

The beauty of Indexed Annuities is that if the market index goes up, the contract makes money. But if the index goes down, the principal is protected and the contract does not lose value.

Indexed annuities give consumers a partial participation in the markets, but offer a principal guarantee.

How Insurance Companies Make This Possible

How can insurance companies make a guarantee that your Fixed Indexed Annuity may go up, but will not go down?

Insurance companies in general use the premium they bring in to invest in safe assets in the general account. Think of it like a large pool of conservatively invested money.

In a Fixed Indexed Annuity, the insurance company uses your premium to invest in bonds, mortgages, and other instruments in the safe, core general account. This produces an annual rate of return, often known as the ‘general account’ yield. The insurance company expenses are subtracted from this to create the yield you can expect to see with a fixed annuity.

But with an indexed annuity, instead of accepting this ‘general account’ fixed rate, the insurance company uses the interest earned from the conservative portfolio to purchase an option position in a market index.

If the market goes up, the company will exercise the option and realize a gain that is credited to your annuity account value.

If the market moves sideways or down, the option expires worthless and no interest – or gain- is available for crediting, but most importantly no loss of principal is realized.

Potential for Gain with No Risk of Loss

When talking about the pros and cons of fixed indexed annuities, the biggest positive is that indexed annuities truly offer you the potential for gains based on market appreciation, without the risk of loss to your principal.

Your principal is not at risk, rather, it’s only the earnings from your principal are invested in potentially higher yield options. Thus, an indexed annuity is a safe asset with upside potential.

This explanation also gives you a good idea of why these are called “Fixed Indexed Annuities”. Income from the FIXED account growth is used to buy options in a market INDEX for potential gain.

Using Fixed Indexed Annuities

Fixed indexed annuities are a great alternative to bonds and are a core, safe money holding often used to make sure the principal is safe and to preserve assets and options for later.

But far too often, the fixed indexed annuity is sold with income or long-term care benefits that add more cost and take away from the real benefits you need.

Additional cost is fine for additional benefit but you need to look at it from a different angle to see if it truly gives you more money. Most times it does not. The key to getting the most out of an annuity is to use it so that the annuity allows you to get the most out of your total portfolio. There is a best way to do it and that’s the only way I suggest doing it.

Like I said at the beginning, most annuities are sold in a way that decreases net worth in the long run. But there’s a way to use an annuity that increases your net worth throughout retirement. Are you interested in finding it?

A Better Way than Fixed Indexed Annuities

When you run the numbers, many annuity strategies decrease your net worth over your retirement years. For many people, it’s a necessary evil because it’s too risky to go without guaranteed income. What if you can have the protection you want but get it in a way that allows you to increase your net worth through retirement?

For those of you who have saved enough to retire comfortably, you will notice this is based on a few basic asset management principles. You can eliminate the two biggest complaints about annuities and receive more benefits than you will get from any other strategy. I don’t care who you saw on TV that says otherwise!

This is the beginning of a safe and flexible strategy that allows you to minimize the cost of protection and in turn maximize the output from your portfolio. 

Further Readings:

Pros and Cons of Indexed Annuities

Fixed Annuity Guide

All You Need to Know to Buy an Annuity

If you seek a qualified adviser well-versed in the pros and cons of fixed index annuities, please do not hesitate to contact Annuity Straight Talk today on 1 (800) 438-5121 tel:18004385121 

Last Updated on November 6, 2023 by Bryan Anderson