Are equity indexed annuities worth it? The idea behind an annuity is that you invest a lump sum up front or make payments over time and then get steady payments back once you retire. Annuities come in a range of flavors, including fixed annuities, which protect your principal, and variable annuities, which carry more risk because the amount you will get back will depend on market performance. You have the chance to make more money with a variable annuity than with a fixed one, but you could lose, too, if the market doesn't go your way.
What is an equity indexed annuity?
From these two annuities, a new flavor has emerged: equity-indexed annuities. With equity-indexed annuities, you get returns based on either a minimum rate or a stock index, whichever is better at the time.
That sounds great, right? You can't lose. If the market takes a dive, you can still get the minimum, and you can still take advantage of market gains. Unfortunately, there is a catch that might leave a bad taste in your mouth. You might not get all of the gains in the index to which your annuity is pegged, which means the growth of your annuity might be capped during the good times, and the fees for security during the bad times are high.
So, what's the catch?
With an equity-indexed annuity, if your annuity is linked to an index and the index shows a gain, that doesn't mean the entire gain will be reflected in your returns. Insurance companies use participation rates to give you only a percentage of that gain, or they can subtract a fee. Either way, your gains will hit a ceiling if the market takes off, and the contract that determines how your gains will be calculated can change annually.
Which annuity is right for me?
If it is true security that you want, you might be better off with a fixed annuity so you will know exactly what is coming. If it's profit that you want, you should compare equity indexed annuities to other investment options, including variable annuities. Either way, beware of high fees that cut into the money you would receive from an annuity. And, if you have trouble understanding how the annuity works, walk away.
No matter what investment vehicle you choose, keep two rules in mind: If you want a reward, you must accept the potential for risk. All investments, no matter how safe or secure they seem, carry risk.
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