Explaining the Fixed Index Annuity (FIA) – A Better Alternative to Bonds according to Ibbotson Research

The pros and cons of diversifying your asset portfolio with a Fixed Index Annuity (FIA)

There are many ways to preserve or grow your wealth at retirement. But before investing, you want to be sure that you understand each option and the risks involved.

It’s especially important to understand the contract with your insurance provider if you are considering purchasing an annuity, like a fixed index annuity (FIA). While there are varying benefits of different types of these insurance products, here’s what you need to know about FIAs.

What is a fixed index annuity?

First, it’s important to recognize that a fixed index annuity is an insurance product, not a security. The most important fact is that your principal is guaranteed by the insurance company. That’s why we prefer to use “A” rated insurance companies that are over 100 years old. One of my clients once told me that they don’t mind getting a little less benefit as long as the insurance company is going to be around longer than they are! By following the fiduciary standard and acting in the client’s best interest, we choose to only deal with large, highly-rated, old insurance companies.

The interest you earn each year is tied to the performance of a market index such as the S&P 500. However, with an FIA you’re not directly investing in the market. The percentage of change that is applied to the value of the FIA is determined by a specific formula that calculates the interest.

There are different ways to calculate the interest you could earn. I prefer guaranteed annuities that have no caps… For example, the products I like give you 50% of the upside of the S&P 500 over the next 12 months, with no limit. So, if the S&P 500 goes up 10% over the next 12 months, you would earn 5%.  And they typically lock in your gains every year. If you have a good year your money goes up, and if you have a bad year your money goes sideways. We call those performance-based guaranteed annuities.

Ibbotson Research recently came out with research that states that they believe fixed index annuities will perform better than bonds over the next 10 years due to the current low-interest rate environment. Roger Ibbotson himself says a combination of stocks, bonds, and fixed index annuities is a good retirement strategy.

What are the benefits of purchasing the FIA?

With a fixed annuity, the minimum interest rate and the payout are both guaranteed by the insurance provider. A variable annuity has a return that changes based on stock performance.

A fixed index annuity is somewhere in the middle – there is some variation since the interest you earn is tied to a market index and thus allows for more growth than a fixed annuity, but it doesn’t fluctuate as much as a variable annuity. FIAs also guarantee your principal balance; it’s fixed, even if there might be dips in the market index you won’t lose your principal.

Warren Buffet once said that the return of your principal is more important than the return on your principal and this is especially true for a retiree!

At retirement, financial professionals often recommend that you make more conservative investment decisions because most retirees typically want to have less and less risk during their retirement years. An FIA is, therefore, an option that many people choose to purchase, as it may help diversify a retirement strategy and is considered a fairly conservative insurance product.

Are there risks?

Yes. While an FIA can be an option to help grow and preserve your wealth, make sure you understand that you can’t cash in the annuity the next day without penalties. Even though you won’t lose money in your principal balance, if you cash out early from the agreed upon term, surrender charges could apply – which is why it’s essential to read this information carefully when devising an overall strategy.

The good news is that many insurance carriers allow you to withdraw a percentage of the contract value each year, should that be something you need in the future.  Usually, you can take out 10% per year penalty free, which for my client’s accessible money is generally enough liquidity.

Another time a retiree might need more liquidity is if they are confined to a long-term care facility or diagnosed with a terminal illness. Depending on the product, the insurance company may waive all surrender charges, so it becomes 100% liquid in an emergency.

Most FIAs don’t have fixed fees unless you add a rider based on your individual circumstances. For example, some of my clients add a lifetime income rider that allows them to turn on an income in the future that will pay them income for the rest of their life. Even if they run out of money, the insurance company still must pay them that income for life.

Is a Bonus Annuity better?

There is no free lunch and insurance companies aren’t stupid. If they give you a day one bonus, they are essentially giving you interest up front. So to make up for that, they give you less upside growth potential than a no-bonus FIA going forward. I prefer to use the highest upside potential annuities that typically don’t give a day one bonus.

If you would like more information about FIAs or other retirement strategy options, get in touch with our team at Stuart Estate Planning Wealth Advisors. We provide a variety of services to help you manage your retirement income and savings.

We can review and update your investment and estate plans to help protect your wealth and leave a legacy for your family.

Learn more by attending an upcoming complimentary dinner workshop at Ruth’s Chris or Abe & Louie’s in Boca Raton or Fort Lauderdale. This workshop is best suited for those over age 60 with between $500,000 to $10,000,000 in investable assets.  Go online or call our office to register now at 1-800-807-5558.

Craig Kirsner, MBA, is a nationally-recognized Author, Speaker and Retirement Planner, whom you may have seen on Kiplinger, Fidelity.com, Nasdaq.com, US News & World Report, MSN Money, Yahoo Finance, CBS, ABC, NBC, Fox, and others. Craig is the author of Retire With Confidence: Preserve and Protect Your Wealth And Leave A Legacy and is the creator of the Preserve and Protect Retirement System.

Investment advisory services offered only by duly registered individuals through AE Wealth Management, LLC (AEWM). AEWM and Stuart Estate Planning Wealth Advisors have not affiliated companies. Stuart Estate Planning Wealth Advisors is an independent financial services firm that creates retirement strategies using a variety of investment and insurance products. Neither the firm nor its representatives may give tax or legal advice. Investing involves risk, including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values. Any references to protection benefits, safety, or lifetime income generally refer to fixed insurance products, never securities or investment products. Insurance and annuity product guarantees are backed by the financial strength and claims-paying ability of the issuing insurance company. 645302

Leave a Comment