Annuities are insurance policy contracts that pay out a certain rate of money annually after it matures and has been fully paid for. Fixed annuities are guaranteed by the insurance company to pay out a minimum interest rate while the account is still being paid for by the customer. These annuities invest premiums into bonds to guarantee a certain level of return to their customers.
Types
Fixed annuities differ from variable rate annuities in that they guarantee a certain rate of return. Insurance companies can do this safely because they invest these funds exclusively in fixed rate assets, like bonds and treasury bills. Variable rate annuities are almost always tied to the stock market in some way, even if they have guaranteed minimum payouts. Fixed annuity policies are conservative investments that give out dependable regular fixed income–an excellent investment for retirement.
Function
Someone looking for a fixed annuity policy will begin by paying off the principal. The amount differs between policies, and the speed at which it needs to be paid also varies. People looking to buy into a fixed annuity program will almost always have their credit history, background and employment status examined by the insurance company. In addition, many insurance companies will also adjust their rates depending on the health, age and gender of the customer. All of these factors will affect the interest rates on a fixed annuity policy.
Features
One of the main advantages of going with a fixed annuity policy is the ability to defer tax payments until the annuity starts to pay out. This makes it similar, in a very broad sense, to retirement accounts like IRA and 401(k), as it can be used sensibly to reduce tax exposure while saving for either retirement or additional future income. The guaranteed returns also make it attractive, particularly relative to investments that are indexed to the stock market.
Warning
Fixed annuity policies are not for everyone. They require discipline on the part of the investor and rock solid financial planning, because significant penalties are incurred if you attempt to withdraw the principle early. These penalties decline quickly for almost every annuity policy as it gets closer to maturity; even then, a fixed annuity loses its relative competitiveness if early withdrawals are made. In addition, if the insurance company in question goes bankrupt before the policy matures, it could have serious negative consequences to the policy.
Considerations
A fixed annuity policy should be evaluated on more than just the interest rates that it pays out. Try to get a policy that has a close rate period and surrender period length–if there’s a difference in ratio of 2 to 1 or more, it’s likely a bad policy. Another helpful way to evaluate it is looking for higher withdrawal allowances without penalties–it helps to mitigate the risk of taking out an annuity. Finally, the company giving the policy should be researched and evaluated, including its recent history and past rates. An annuity is usually a long term investment, and a lot can happen between the time that you buy the policy and when it matures.
