There are two basic types of annuities you can buy—fixed and variable.
Fixed Annuities
Fixed annuities earn a guaranteed rate of interest for a specific time period, such as one, three or five years.
Once the guarantee period is over, a new interest rate is set for the next period. This guarantee of both interest
and principal makes fixed annuities somewhat similar to Certificates of Deposit (CDs) purchased from a bank.
Unlike a typical CD, however, an annuity is not insured by the Federal Deposit Insurance Corporation (FDIC) up
to $100,000; its security is directly related to the financial health of the insurance company that issues the
annuity.
Variable Annuities
Variable annuities typically offer a range of investment or funding options. These funding options may include
stocks, bonds and money market instruments. The return on variable annuities can go up or down. Your principal
and the return you earn are not guaranteed; they depend on the performance of the underlying investment
options. If the investment options you choose for your annuity perform well, they may exceed the inflation rate or
fixed annuity returns. If they don’t, you may lose not only prior earnings, but even some of your principal.
Some variable annuities offer, in addition to a range of investment options, a fixed account option that guarantees
both principal and interest, much like a fixed annuity. This gives you the option of dividing your money between
the low-risk fixed option and higher-risk vehicles such as stocks, all under the umbrella of just one annuity. Many
variable annuities offer asset allocation programs to help you decide where to invest your assets based on your
circumstances.
Variable annuities, purchased with after tax dollars, also allow you to transfer money from one account to
another without triggering a taxable event. In other words, if you transfer money to a different funding option within
your variable annuity, you will not have to pay taxes on any earnings you have made. Tax-free switching lets you
re-allocate money to suit changing market conditions, and your changing investment goals due to life events,
without worrying about reporting and taxes.
Fixed and Variable Annuity Expenses
Variable annuities usually have more features and higher fees than fixed annuities. With fixed annuities, most
contract expenses—such as maintenance and contract fees—are taken into consideration when the company
declares periodic interest rates or determines the payment amount. Surrender changes may also apply.
Variable annuity fees are more complicated. They may include an annual contract charge that covers
administrative expenses, surrender fees and a mortality and expense risk charge. Variable annuities charge this
latter fee to guarantee the death benefit, the availability of payout options and the level of expenses.
In addition, a variable annuity has fees for the management and operating expenses of the funding options in
which your money is invested. These charges pay for everything from the fund manager’s salary to the costs of
printing the fund prospectus.
For a variable annuity, all important information will be explained in the prospectus that describes the variable
annuity contract. The prospectus must be given to you when you are considering the purchase of a contract with
after-tax dollars. Read it carefully before you invest or send money and be sure you understand exactly what
your expenses will be.
it should not be used as a substitute for legal advice. Call if you have questions.