You own an indexed annuity. Is it worth keeping?
If you own a traditional, non-indexed fixed annuity, it’s not hard to decide if it is worth keeping. You can compare your current interest rate with what is available in other annuities, while also taking account of any surrender charge that you would have to pay.
Indexed annuities are much more complicated. The interest that you earn is tied to the performance of a financial index, such as the S&P 500 stock index, and there are many different crediting methods. You also have to consider the guaranteed minimum interest rate and any surrender charge.
The future value of an indexed annuity is much harder to predict than the future value of a traditional fixed annuity. If you want to make an informed decision about whether your indexed annuity is worth keeping, you need to look at the range of possible results.
We give you that information in a What Should I Do With My Indexed Annuity? report. Our goal is to help you avoid the dual mistakes of keeping an indexed annuity that you should get out of, or getting out of an indexed annuity that you should keep.
What is an indexed annuity?
An annuity is a contract with a life insurance company that provides an income for a fixed period or for life. If the contract is an immediate annuity (also called an income annuity or a payout annuity), the income begins soon after the contract is issued. If the contract is a deferred annuity, the income begins at the end of an accumulation period, which can last for many years. Most people who buy a deferred annuity do not choose to receive regular income payments; instead, they cash out and receive the contract’s value as a lump-sum payment, or they periodically withdraw a portion of the contract’s value.
Annuities can also be variable or fixed. If the contract is a variable annuity, the growth in the value depends upon the gains or losses of the investments (called subaccounts) that you choose; in this respect, a variable annuity is similar to a family of mutual funds.
If the contract is a fixed annuity, the growth in the value depends upon the interest rate that the insurance company credits each year. An indexed annuity (also called an index annuity or an equity-indexed annuity or a fixed index annuity or a fixed indexed annuity) is a deferred fixed annuity with an interest rate that is based upon the performance of a financial index, such as the S&P 500 stock index. In addition, the credited interest rate cannot be less than a guaranteed minimum rate, regardless of the performance of the index.
Why is it hard to decide what to do with an indexed annuity?
It’s hard because you have to take many factors into account to get a picture of whether the annuity is likely to be a good investment. These factors include:
- the possible future values of the index;
- the formula that translates the change in the value of the index into the interest rate that is credited to your contract;
- the guaranteed minimum interest rate;
- the current and future surrender charges;
- your current and future marginal tax rates;
- the probability of the owner’s or annuitant’s death each year; and
- your current contract values, including the guaranteed minimum value, the value for each indexed account and your tax basis.
What will a What Should I Do With My Indexed Annuity? report tell me?
We use simulation techniques to create thousands of possible future values for your annuity, and then we tabulate the results. You can use these projections to help you make these decisions:
Should I keep my annuity, or should I get out of it? We give you five-year and 15-year projections of your annuity’s after-tax surrender value versus the after-tax value of two benchmarks, representing alternative investments.
Should I take a penalty-free withdrawal? We give you a 10-year projection of the after-tax value of taking a withdrawal now and investing it elsewhere versus taking a withdrawal later.
How much does your service cost?
A What Should I Do With My Indexed Annuity? report costs $1,495 for the first indexing strategy, plus $695 for each additional indexing strategy that you want us to analyze.
For example, if your annuity gives you a choice of two indexing strategies, such as monthly averaging or annual point-to-point, the cost to evaluate both strategies would be $2,190. We prepare a separate report for each strategy.
Discounts for small annuities and for multiple orders can be negotiated.
What can I expect to receive?
When we prepare a What Should I Do With My Indexed Annuity? report for you, we do not just input data, push a button and print. We have to think about what we’re doing. Indexed annuities do not have a standard design, so we have to create a simulation model that reflects the features of your annuity. We may have to use our own judgment if some items of information are missing. We also review our results to make sure that they seem reasonable.
What documents do you need from me to prepare a report?
We need a copy of your annuity contract (please do not send the original) and your latest annual statement. It is also helpful to have a copy of annual statements from earlier years, if you have them.
You can also tell us the assumptions that you would like us to use in preparing the report. You can specify tax rates, benchmark rates of return, parameters of the probability distribution of index values and nonguaranteed interest-crediting factors, such as participation rate, spread and cap. If you prefer not to specify your own assumptions, we will use assumptions that seem reasonable to us, with an explanation.
How likely is it that I will benefit from your service?
Most indexed annuities have a surrender charge that lasts many years, and it is usually not obvious whether it makes sense to keep the annuity or pay the surrender charge and get out. Even if there is no surrender charge, it may not be easy to judge the merits of the annuity by reviewing the interest-crediting formula. If your annuity offers more than one interest-crediting strategy, you may find it difficult to decide which one to choose.
The simulation methodology used in a What Should I Do With My Indexed Annuity? report will give you a better picture of your options, including the option of taking a penalty-free withdrawal.
What are the limitations of your service?
We must necessarily make assumptions about future index values, tax rates and nonguaranteed interest-crediting factors to prepare the simulations. We also ignore the value of some features, including guaranteed annuity options, living benefit riders, avoidance of probate and protection from creditors.
These features are explained in the report, and we encourage you to consider them when you make a decision about what to do with your indexed annuity. We can crudely take them into account in the simulations by reducing the benchmark rates of return, using your own specified adjustment.
Can I get a report for an indexed annuity that I am thinking of buying?
Our service is intended to help people who have already bought an indexed annuity. If you are thinking of buying an indexed annuity, you should start by reading these documents:
- Craig J. McCann, “An Economic Analysis of Equity-Indexed Annuities,” Securities Litigation & Consulting Group, September 10, 2008 (www.slcg.com)
- William Reichenstein, “Financial analysis of equity-indexed annuities”, Financial Services Review, Vol. 18, No. 4, 2009 (http://www.drsm.org/FSR_journal/Financial_Services_Review_home.htm)
- Glenn S. Daily, “Index Annuities: Are the Critics Wrong?”, November 30, 2009 (www.glenndaily.com/glenndailyblog12.htm)
- FINRA, “Equity-Indexed Annuities — A Complex Choice,” June 13, 2010 (www.finra.org/Investors/ProtectYourself/InvestorAlerts/index.htm)
You can easily find critical commentary about indexed annuities by doing a search on the Internet.
If you still want to buy an indexed annuity, you can order a What Should I Do With My Indexed Annuity? report for the product that you are considering. We will need a specimen contract and a copy of the sales information that you have received.
Where can I get more information about indexed annuities?
Here are some websites that provide information about indexed annuities:
- Advantage Compendium
- National Association for Fixed Annuities
- National Association of Insurance Commissioners
- Securities & Exchange Commission