A fixed indexed annuity is a contract with an insurance company. You give the insurer a sum of money, and in return the contract can help protect that money from market losses while giving it a chance to earn interest. Here is how it works, step by step.
Your money is not invested in the stock market
Interest is calculated using the performance of a market index, such as the S&P 500. Your premium itself is not invested in stocks. When the index goes down, your credited interest for that period is typically zero rather than a loss.
Limits on the upside
In exchange for protection from index losses, gains are limited. Contracts use tools like these:
- Cap rate — the most interest you can earn in a period.
- Participation rate — the share of the index gain that counts toward your interest.
- Spread — a percentage subtracted from the index gain before interest is credited.
Access to your money
Most contracts let you withdraw a portion, often around 10%, each year without a charge. Taking more during the surrender period, usually several years, can lead to surrender charges. Withdrawals before age 59½ may also face a federal tax penalty.
Turning savings into income
Many annuities offer an option, sometimes through a rider with an annual fee, to turn your balance into income you cannot outlive. Guarantees depend on the financial strength and claims-paying ability of the issuing insurer.
Who may consider one
People nearing or in retirement who want to protect part of their savings from market drops, and who will not need all of that money in the next several years, often look at fixed indexed annuities.
The bottom line
A fixed indexed annuity trades some growth potential for protection from index losses. Understanding the caps, fees, and surrender period before you buy is essential.
Learn about annuitiesThis article is for educational purposes only and is not tax, legal, or investment advice. Insurance and annuity products are not deposits, not FDIC insured, and not guaranteed by any bank. Guarantees are backed solely by the financial strength and claims-paying ability of the issuing insurer. Product features vary by insurer and state.
