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How to Find the Best Fixed Annuities

As investors continue to search for safe and predictable alternatives for their long term retirement dollars, the demand for fixed annuities is surging as is the proliferation of fixed annuity product choices. In today’s uncertain economy, if you are a life insurance company, you want to be able to capture a share of investor funds that are searching for a safe haven from volatility. And, to the consternation of investors, there are dozens of life insurance companies that offer fixed annuities. So, the challenge for investors is how to find the best fixed annuities.

To add to the confusion, fixed annuities are offered through a number of different sources. You are likely to see them offered through your bank or brokerage firm, and you have probably encountered a number of ads from direct annuity sellers on the internet. With all of these sources willing to answer your questions on fixed annuities, it’s like getting your information from a fire hose – it’s much more than you can consume.

The good news is that the fixed annuity market is highly competitive, so, even though there is information overload, when you know what it is you are looking for, and you can pinpoint the right sources, you are likely to find the best fixed annuity product for you. It does require that you do your own homework, however, the time spent there, will save you much more time and frustration later.

What to Look for in the Best Fixed Annuities

The Best Interest Rates

Fixed annuities are purchased as much for their competitive fixed yields as they are their security, and, as with bank CDs, the yields are their primary competitive feature. So, life insurers that want to attract your investment must put forth their best rate. The danger is that some life insurers are willing to “buy” your business by offering above market rates as an enticement only to drop them to below market rates once they have your money. It is important to check the fine print.

Most fixed annuities come with guaranteed rate set for a period of time, say, five years. After five years, the rate will be adjusted based on a formula, or based on prevailing rates at the time. In some cases, it may be better to go with a slightly lower rate if the terms are better for rates in the long run. And, beware of “bonus” rates that tack on an extra half or full percentage point in the first year. While these may be very appealing, it would be important to check the minimum rate guarantee in future years. Also, some of these products load up on expenses, to offset the cost of the bonus rate.

Fixed annuity rates are often tied to a tiered structure that includes the size of the deposit and the length of the rate guarantee period. Essentially, the larger the deposit, and the longer the guarantee period, the higher the rate you can earn. Because the difference in rates between lower tiers and higher tiers can be as much as 1%, it is worthwhile to consider the higher tiered annuities, but it is important to compare them carefully.

Account Access

Fixed annuities should be considered as long term investments. You should expect to commit your funds for at least a ten to twenty year period of time. But, life happens, and there may be a change in your circumstances that requires emergency access to your annuity. Fixed annuities do allow for an annual withdrawal of funds, free of charge as long as it doesn’t exceed 10% of the accumulation account. If it does, then you will be charged a surrender fee as high as 12% if the withdrawal occurs within the surrender period (typically 5 to 10 years) stated in the annuity contract.

This is a key differentiator among fixed annuity products. Even though most annuity investors understand that annuities are long term commitments, they don’t necessarily like the idea that they could lose a portion of their money to fees if they need to access it. Recognizing that, some annuity providers try to make their products more attractive by lowering their surrender fees and shortening the surrender period.

If you don’t think you will need to access your funds in a five to ten year period, then the surrender fee and the length of the surrender period may not be of concern to you. Otherwise, this is an area that should be compared carefully between annuity products.

Safety and Security

Aside from the tax advantages that fixed annuities offer, the number one reason behind their popularity is the overall peace-of-mind they provide. Fixed annuities are laden with guarantees: minimum interest rate guarantee, return of principle guarantees, and, ultimately, a lifetime income guarantee. That’s a lot of guarantees which should eliminate the need for sleeping pills. It is important to realize, however, that those guarantees are only as good as the financial condition of the life insurer offering them.

While annuities are considered to be among the safest of investment vehicles, the extra measure of security that everyone is looking for can only be provided by the strongest and most stable life insurance companies. With huge number of life insurers offering annuity products, there really isn’t any good reason not to limit your search to the most highly rated companies. Currently, there are 20 companies that have been assigned the highest ratings from three different ratings agencies, and, the chances are, their annuity products are just as competitive as the lower rated companies.

Finding the Best

The internet has made searching, information gathering and comparing too easy not to invest a small amount of time to help you narrow your choices. Annuity websites that aggregate data from all of the top annuity providers can provide you with quick side-by-side comparisons on a number of features, including interest rates, expenses, surrender fees and financial ratings. It is highly recommended that you first develop your list of 10 or 20 life insurers that meet your standards for financial strength and ratings, so that you can streamline your search.

From there, you should be able to narrow your list of the best fixed annuities down to a few. You can purchase your annuity from the direct seller on the website, or through a financial professional. Either way, you will be in control so that you’ll know when you find the best fixed annuity product.

Understanding Fixed Annuities

It is not too big of a stretch of the imagination to compare the last twelve years of the stock market to a huge roller coaster ride which is an experience that few people can stomach: Up, down, loop-d-loop, climb and then crash. The really unnerving part is that, when the ride starts up again, it will do exactly the same thing. How fun is that? Not much if that’s your retirement nest egg going for the ride. Meanwhile, fixed annuity owners have been happily floating along on their merry-go-round, grabbing the brass ring with each rotation.

The Importance of Fixed Annuities in Retirement Planning

Fixed annuities have been providing investors with portfolio stability and long term guarantees for decades. Smart investors, especially those with a retirement time horizon, invest in a combination of growth investments like stocks and stable investment like fixed annuities. The result for a retirement portfolio is a much smoother ride and more stable long term returns. Once pre-retirees understand how fixed annuities work, they realize their value to the overall performance of their retirement portfolio.

Key Characteristics of Fix Annuities

There are many ways to add stability to a retirement portfolio. CDs and government bonds can add safety and stability, but only fixed annuities offer a mix of guarantees and flexibility that can ensure the long term stability and security that retirees need. Its unique characteristics of tax advantages, competitive interest rates, minimum rate guarantees, withdrawal provisions, and, ultimately, secure lifetime income, combine to provide investors with a portfolio foundation upon which they can more confidently add some growth oriented investments.

Tax-Deferred Accumulation

If all other aspects of fixed yield alternatives were equal, the tax deferral of earnings inside fixed annuities gives them an edge as a long term accumulation vehicle. Consider two equivalent vehicles, a taxable CD and a fixed annuity, both yielding 4%. For an investor in a 40% combined tax bracket, the after tax return on the CD is actually 2.4%. Over the long term, the difference could amount to thousands of dollars of additional accumulation with a tax deferred fixed annuity. Withdrawals from annuities are taxed as ordinary income, and any withdrawals made prior to age 59 ½ may be subject to a 10% penalty by the IRS.

Competitive Yields

Fixed annuity yields are typically compared with those of bank CDs, yet, historically, fixed annuity yields tend to be higher. The difference can be attributed to the type of financial institutions from which they originate as well as the methods for determining the yields. CDs are time deposits offered through banks. Because bank deposits are used by the bank to loan money, their yields are based on prevailing short term interest rates, which makes them very sensitive to interest rate movements.

Annuities are offered through life insurance companies who invest the deposits with their general account. The general account is invested in a portfolio of short, intermediate and long-term bonds, which, when managed effectively, can generate a higher yield, a portion of which is applied to the annuity accounts.

Minimum Rate Guarantee

The initial yields on fixed annuities are usually guaranteed for a specific period of time, from one to five years, after which they are reset based on a formula or the current interest rate environment. The risk with any fixed yield vehicle is that, if interest rates, in general decline, the possibility exists that the new applied rate will be much lower than the initial rate. Fixed annuities include a minimum rate guarantee which acts a floor below which the new rate cannot drop. As compared with other fixed yield vehicles, this feature offers investors more predictability on the growth of their funds.

Withdrawal Provisions

One of the criticisms of annuities is that they require a long term commitment before investors can access their funds. Setting aside the fact that they are designed as long term retirement vehicles, annuity contracts do include a withdrawal provision that allows investors to take out a portion of their funds each year without charge.

Up to 10% of the accumulated funds can be withdrawn, and amounts in excess of that will be charged a withdrawal fee. The fee, ranges from 7% to 12% in the first year, and then decreases by a point each year, so that, when it declines to zero, there are no more withdrawal fees. Again, withdrawals made prior to age 59 ½ may be subject to a penalty unless certain conditions exist, such as disability or hardship.

Secure Lifetime Income

Annuities originated long ago primarily as income vehicles. In return for a lump sum deposit a life insurance company promises to pay a guaranteed income stream for the life of the annuitant. Fixed annuities were introduced to allow for an accumulation period in which a lump sum can grow over time before it is converted into income.

At the time the income is needed, a fixed annuity can be “annuitized” to generate a monthly income which is fixed for a certain period of time or a lifetime. Once the income begins, the annuity balance is irrevocably retained by the life insurer who guarantees the income, for as long as the annuitant is living. This becomes the income “safety net” that allows investors to continue to assume some risk with the rest of their portfolio in order to achieve higher yields.

How Fixed Annuities Deliver All of That

Annuities are insurance contracts issued by life insurers which, in essence, protect you against the risk of living too long (as opposed to dying too soon with life insurance contracts). So, all of the guarantees and provisions discussed here are bound in the contract which consists of an accumulation phase and a distribution phase. In return for your deposit, the life insurer is obligated to return to you a minimum amount of money, either in the form of accumulated funds, or as a guaranteed monthly income.

Life insurers have been fulfilling this obligation for a couple of centuries without fail. It is the unique structure of life insurance companies that creates the security that annuity owners enjoy. Life insurers are regulated by state insurance commissions who apply very strict investment and financial guidelines that must be followed. Essentially, life insurers are required to maintain a reserve of funds that can always pay all of its future obligations, with interest. And, in most states they must also operate with a capital surplus which ensures the security of its reserve.

As secure as fixed annuities are, investors can add another layer of security by working with life insurers who rank highly based on the strength of their financial condition. Rating agencies, such as A.M. Best and Standard & Poor’s regularly evaluate all life insurers and apply a rating. With dozens of insurers offering competitive annuity products, there’s no reason not to work with the top companies.