Are you looking at different annuity rates for your retirement goals? Generally speaking, an annuity rate is the percentage at which money inside an annuity grows annually. While a majority of annuity rates have to do with growth potential, not all rates do.
Many advertisers push different annuity rates online, but these rates can have different meanings. Those rate distinctions differ largely along the various types of annuities and what each type offers to you.
Some annuities, like immediate annuities, will give you rates that are tied to income payouts. Since immediate annuities are designed to pay you income right away, that makes it pretty straightforward. Other annuities are more ‘income for later’ and come with rates like “payout percentages” depending on the type of payout option you choose.
Annuity rates usually vary from one life insurance company to another. What’s more, rates are tied to current interest rates. So when current interest rates change, annuity rates tend to move with them.
How Do You Know if an Annuity Rate Is Competitive?
How do you know you are getting a good deal for your money when you buy an annuity? Alongside asking the right questions, one way is to look at the annuity rates that come with different contracts.
But to do this, it’s important to understand how annuity rates vary along the different types of annuities. At a high level, there are five annuity kinds:
- Immediate annuities
- Fixed annuities
- Multi-year guarantee annuities
- Fixed index annuities
- Variable annuities – Our Firm does not provide
Let’s dive into what these encompass — and, if you have an annuity contract, what those rates could mean for your goals.
These contracts are also known as “single premium immediate annuities” (or SPIAs for short).
In an immediate annuity, someone pays the insurance carrier a lump sum of money upfront. Then the insurance company pays a fixed income stream to that person for the timespan that they specify. This timespan can be for a certain amount of years (for example, 5 to 20 years) or for the rest of your life.
The income payments to you each month are based on the initial amount of money that is put into the contract, plus earned interest. An immediate annuity is designed to liquidate your principal over your lifetime and pay you steady, reliable income from that lump sum.
What if you are repaid your entire principal? Here is one advantage that annuities have over all other financial instruments.
You will continue to receive income, even though your money has dwindled down to zero. The insurance company is contractually obligated to dip into its coffers and pay you income for as long as you live.
While most annuity owners opt for monthly annuity payments, you don’t have to. You can also choose to receive income on a quarterly, semi-annual, or annual basis, depending upon your financial needs.
You can also choose to have a spouse receive payments on top of the payments you receive. Just as before, the timelines for which you receive income can be for a certain timespan, for your lifetime, or for your spouse’s lifetime.
Even a combination of these options is possible. The annuity rates for an immediate annuity depend on many factors:
- Your age
- How many people are receiving income (just you, or you and your spouse)
- The gender of the person receiving payments
- What type of payout is selected
The quotes you receive for an immediate annuity are for how much income you will actually receive — not the underlying growth rate helping support the life insurance company’s payments to you.
The annuity rates offered with fixed annuities are guaranteed fixed interest rates. Your money grows at this fixed rate for a specific period, which is usually guaranteed for a year. This is a different type of annuity than an immediate annuity.
While an immediate annuity lets you start receiving income right away, a fixed annuity is a deferred contract. In other words, you can start income payments some years down the road.
How long your money earns this guaranteed interest rate will vary from one fixed annuity contract to another. Some refer to fixed annuities as “single-year guaranteed annuities,” as the interest rate you receive is guaranteed for a year-long period.
In this case, the annuity rates tied to a fixed annuity are describing the rate of growth at which your money is guaranteed to grow.
From there, you will continue to receive a guaranteed rate per year. But it can be higher or lower depending on what the insurance company decides to offer you as a renewal rate. This is why it’s important to confirm whether the life insurer has a solid renewal rate history or a solid track record of offering competitive renewals to their policyholders.
You also can take a guaranteed income from this type of annuity. In that instance, the rate will be expressed as payouts (just like with SPIAs) and possibly a “payout percentage,” which is simply the percentage of income to your money in the contract.
Multi-Year Guarantee Annuities
As the name suggests, a multi-year guarantee annuity (or MYGA annuity) gives you a guaranteed rate for many years. Most quotes express this annuity rate as the “guaranteed effective yield.”
It’s a fixed rate and shows how much your money will grow each year for as long as the guaranteed period lasts. Since the growth is guaranteed for a long period, the liquidity for a multi-year guarantee annuity isn’t usually as flexible as it is with other fixed-type annuities.
You can also opt for a guaranteed lifetime income with this type of contract, just like you would with a plain-vanilla fixed annuity.
Variable Annuities – Our Firm Does Not Provide
Variable annuities don’t have a fixed annuity rate. They have “subaccounts,” or investment funds that are market-based choices. Your money can go up or down in value depending on how these subaccounts perform.
When you receive a growth projection or illustration for a variable annuity, it’s based on a hypothetical growth rate. This projected growth rate is based on assumptions of how the funds you choose will perform.
Some variable annuity contracts will give you minimum rate guarantees insofar as they pertain to how much lifetime income they might pay you some years down the road. However, these guarantees aren’t actual growth for your money.
Not only that, such guarantees are often an add-on benefit – called a rider benefit – that comes at an additional charge. Your financial professional can walk you through any details pertaining to these options.
Fixed Index Annuities
Fixed indexed annuities fall somewhere between fixed and variable annuities in terms of risk and growth potential. Your money can grow by earning interest in a fixed indexed annuity just as it would in a fixed annuity.
The difference is that a fixed indexed annuity doesn’t credit interest according to a certain fixed rate. In other words, the interest rate isn’t guaranteed.
In an indexed annuity, your growth potential is tied to an underlying benchmark, such as the S&P 500 price index. When the index goes up, you earn interest that is based on a portion of that growth.
But when the index goes down, the least you can ever be credited is 0%. In other words, your money won’t ever lose value due to the index falling. When this happens, your principal and the interest earnings that you have already been credited are locked in.
Your fixed index annuity gives you guaranteed protection against market risk, in this regard. But in exchange, the growth rate of your annuity here will be subject to caps, participation rates, and spreads, which the insurance company uses to limit your growth potential. Why?
That is due to the guarantee that you will never earn less than zero percent. This protection benefit is called a “floor.”
The insurance company bears the risk of what would happen to your money if the index had a major tumble down. It manages this risk by putting your money into Treasury securities, bonds, other low-risk investments, and call options to offer you that growth potential.
What Are Caps, Participation Rates, and Spreads?
As said earlier, insurance companies use participation rates, caps, and spreads to determine how much interest your fixed index annuity will earn. But what exactly are they?
In a nutshell, these are rate features that are part of your indexed annuity contract. Since they directly play into your interest earnings, it’s important to have a general understanding of what they do.
A cap is an upper limit, or cap, on the underlying benchmark-linked interest. It’s the maximum amount of interest that your annuity will earn. For example, say the S&P 500 price index goes up 10% in a given period. And say the cap on your fixed index annuity is 6%. In this case, your money will be credited 6% for that period. The growth potential is capped at that level.
What about a participation rate? This is another feature used by insurers to calculate interest earnings. This rate decides what percentage of the increase in the benchmark index is used to calculate index-linked interest.
Here is an example to clarify what that means. Say your participation rate for your annuity is 50% and again the index goes up 10%. The credited growth for your money will be 5% (0.5 x 0.1 = 0.05). The participation rate is applied to the index growth for that period.
Finally, what are caps? This is simply a percentage that the insurance company will subtract from the index growth. Say the cap is 3% and the index goes up 10% again. In that case, your money would earn 7% for that period (10% – 3% = 7%).
What Else Should You Know About Indexed Annuities?
Different fixed index annuities have different caps, participation rates, and spreads, as insurance companies vary in how much they give you for each. That is why it pays to shop around for different fixed index annuities and see what different options can give you.
Historically, fixed index annuities have earned more interest than fixed annuities and multi-year guarantee annuities have earned. This is even in spite of the growth potential not being guaranteed in a fixed index annuity.
Because the insurance company is upholding the integrity of your annuity with low-risk, interest-earning investments, they are subject to interest rate risk. Therefore, the insurance company has the ability to change caps or participation rates with changes in fixed-interest investment market conditions.
You likely won’t have the same caps or participation rates for the entirety of your contract maturation. And if you do, you are likely giving up growth potential or some benefit in another area. Be sure you have your financial professional help you understand what that is.
Furthermore, not all insurance companies are equal in the “renewal rates,” or whatever interest rates they offer for your annuity’s growth potential in the future.
Even so, the insurance company guarantees that your annuity money will earn a certain minimum guaranteed rate, no matter what. This is specified in the contract.
Finding the Right Annuity Rates and Benefits for You
There are different types of annuity rates that are used with different types of annuities. The kind of annuity rate that you shop for will depend on what you want your annuity to do for you.
Do you want guaranteed income? Then those annuity rates will have to do with income payouts and how much guaranteed income you are getting for your buck.
Whether you will draw income now or later, we recommend that you compare the actual payment numbers instead of the payout percentages and other rates. The real dollars and cents of how much income you will receive are what really matters.
If you are looking for growth, those annuity rates will tell you how much your money might grow in a certain period. What if you want a certain minimum of growth for your money? Then explore fixed annuities and multi-year guarantee annuities, which will offer a guaranteed fixed rate of growth.
Fixed annuities will give you a guaranteed rate for each year. A MYGA annuity will give you a guaranteed rate for many years. But on the other hand, you likely won’t have as much liquidity and other benefits in a MYGA annuity as you could have in a fixed annuity.
On the other hand, what if you want higher growth than what a MYGA annuity or fixed annuity can give? Should you still want protection of your money from market risk, you may well look at a fixed index annuity. And if the prospect of market risk doesn’t bother you, a variable annuity may be a good fit for your goals.
Remember, Not All Annuities Rates Are Guaranteed
Keep in mind that not all annuity rates, whether for growth or income, are guaranteed. In a variable annuity the growth depends on how the subaccount investments perform. With a fixed index annuity your growth potential depends on the movements of the underlying benchmark index.
If an annuity rate sounds too good to be true, ask the advertiser or financial professional offering the annuity about what its cons and potential downsides may be. You deserve to know the complete picture of what you may buy.
Above all, the best purpose for an annuity is the contractual guarantees it offers you and how it fills specific holes in your retirement plan.
Those guarantees will likely entail some hard numbers – some rates – of the guaranteed benefit you would receive. Your financial professional can walk you through what those numbers might mean and help you make a confident, well-informed decision.
Please contact (704-451-7020), our firm for your FREE financial review and to discuss your goals and objectives. Based on your goals, we will make recommendations that would best fit your objectives.
John CasaSanta/CasaSanta Financial Services does not provide legal or tax advice. For information on your particular circumstances please see guidance from your tax professional.