Annuity StrategiesGuaranteed Income for Life

A fixed index annuity (FIA) is a type of fixed annuity that earns interest based on changes in a market index, and the interest is guaranteed never to be less than zero. You do not own the index. The insurer credits interest using a formula in your contract, and the NAIC notes that the interest will not fall below zero even if the market goes down.

The formula usually includes limits. A cap is the most the contract will credit, a participation rate is the share of the index gain you receive, and a spread subtracts a set percentage from the gain. The SEC gives this example: with a 7% cap and an index return of 12%, only 7% is credited. Insurers can often change features such as the cap from time to time, so read what your contract allows.

Variable annuities and registered index-linked annuities are different products. The SEC treats them as securities, and they can lose money when markets fall. This guide covers only fixed and fixed index annuities, which are regulated as insurance by your state.

A fixed annuity pays an interest rate the insurer sets, a MYGA (multi-year guaranteed annuity) is a fixed annuity that locks one rate for a set number of years, and a fixed index annuity ties interest to an index with a 0% floor. All three are insurance contracts, and none is insured by the FDIC.

When a MYGA's guarantee period ends, you choose what happens next, such as renewing at the rate then offered, moving the money or taking it out. Rates at renewal can be lower or higher than the first rate.

Guaranteed lifetime income means the insurance company promises to pay you for as long as you live, however long that is. You can get it in two ways: by converting the annuity into income payments, called annuitizing, or by adding an income rider that lets you take guaranteed withdrawals while the contract stays open.

When you annuitize, you pick an income option. Life only pays the most each month but stops when you die. Life with a period certain keeps paying your beneficiary if you die within the set period, and joint and survivor keeps paying while either spouse is alive. Each added feature lowers the payment, according to Wisconsin's insurance regulator, and the choice usually cannot be changed once payments start.

Fixed income payments usually stay the same, so inflation wears them down. At an assumed 3% a year, what costs $1,000 today would cost about $1,340 in 10 years, which means a flat payment buys roughly 26% less. Keep that in mind when you decide how much of your income to lock in.

An income rider is an optional add-on that guarantees a stream of lifetime withdrawals, usually for an annual fee. The NAIC describes a common type as a guaranteed lifetime withdrawal benefit: it promises income payments you cannot outlive, and while you take them, the money still in the annuity continues to earn interest.

Riders vary a lot, so ask these questions and get the answers in writing:

• What is the annual rider fee, and is it charged on the account value or on a separate benefit base?
• What payout percentage applies at my age, and how does it change if I cover a spouse too?
• Does the benefit base grow while I wait, and for how many years?
• What happens to my death benefit and my access to cash once I start taking income?
• Can the insurer change the rider fee or the rules after I buy?

The SEC notes that optional benefits typically cost extra. A rider can be worth it if lifetime income is the main goal, but if you will not use it, the fee is money you paid for nothing.

There is no single number, because the income depends on your age when payments start, whether the income covers one life or two, the insurer's rates and the rider. What we can show you is the method, and then you can test it with real quotes.

1. Find the base the percentage applies to. Many riders apply the payout percentage to a benefit base the contract defines, which can differ from your account value. Ask how it is figured.
2. Find the payout percentage for your age. Payout percentages are tied to your age when you first take income, and they are lower when the income covers two lives.
3. Multiply, then subtract the fees. Yearly income is the base times the percentage. Remember the rider fee also reduces your account over time.

To see how waiting a few years, covering a spouse or changing the rider fee moves your income, use the free income planner at the top of this page. Its starting numbers are hypothetical and editable, so replace them with the figures from any quote you receive.

A surrender charge is a fee the insurer takes if you withdraw more than the free amount during the surrender period. The Texas Department of Insurance says it generally starts at about 10% and drops each year until the period ends, and the SEC says surrender periods typically last six to ten years, or longer. Many contracts let you withdraw a free amount each year, often up to 10%.

Surrender charges are not the only cost of taking money out early:

• Taxes: earnings are generally taxed when you withdraw them.
• A 10% federal additional tax can apply to the taxable part of a withdrawal before age 59 and a half, with exceptions such as disability.
• A market value adjustment, if your contract has one, can raise or lower what you receive. The NAIC says it can reduce your value if interest rates are higher than when you bought.

You also get a free-look period after the contract arrives, usually 10 to 30 days according to the NAIC, and 20 days in Texas. Use it to read the contract and cancel for a refund if it is not what you were told.

Annuities are not insured by the FDIC. Their safety rests on the insurance company's claims-paying ability, backed by a state safety net called the guaranty association. Check the insurer's financial strength ratings and complaint record before you buy.

Every state has a guaranty association that steps in if an insurer is placed in liquidation. NOLHGA, the national organization of these associations, says that in most states the coverage level for a fixed annuity is $250,000 in present value of annuity benefits, including cash surrender values. Some states set different limits, and amounts above the limit become a claim against the failed insurer's estate, which may pay part of it.

That matters most for large balances. If your annuity is larger than your state's limit, ask how that fits into your plan before you buy. You can look up your state's limits at nolhga.com.

Safe also does not mean you cannot get back less than you put in. Interest credits in a fixed or fixed index annuity do not fall below the contract minimum, but a surrender charge, a market value adjustment or taxes can still reduce what you receive if you leave early.

They are not direct alternatives. A 401(k) is a retirement account with employee contribution limits and often an employer match, while an annuity is an insurance contract whose main job is guaranteeing interest or income. Many people use both.

One caution from the SEC: if you buy an annuity inside a traditional IRA or 401(k), you get no extra tax deferral from the annuity. Make sure the guarantee, not the tax treatment, is why you are paying for it.

An annuity can fit at 60 or 65 if you want part of your savings to become steady income, you can leave that money alone through the surrender period, and you keep other savings for emergencies. It is a poor fit for money you may need soon.

At 60, you are past the age 59 and a half cutoff for the 10% federal additional tax on annuity withdrawals, but a surrender period of seven to ten years could run until 67 to 70. At 65, income can start sooner, and many income riders pay a higher percentage the later you begin. If the annuity sits inside an IRA, required minimum distributions start at age 73.

• Keep emergency cash outside the annuity.
• Match the income start date to when you actually need the income.
• Count Social Security, pensions and other income before you decide how much to lock in.
• Decide whether the income should cover a spouse, and ask what that does to the payment.

NAIC Model Regulation #275 requires an agent who recommends an annuity to act in your best interest, without putting the agent's or the insurer's financial interest ahead of yours. The NAIC says nearly every state has adopted some version of it. It is a regulatory standard, and the model itself says it does not create a fiduciary duty.

In practice the agent has four obligations:

• Care: learn your finances, needs and goals, understand the options available, and have a reasonable basis to believe the annuity fits you.
• Disclosure: explain the agent's role and which products and insurers they can sell, and how they are paid. You can ask for an estimate of the cash compensation.
• Conflicts of interest: identify and avoid, or reasonably manage and disclose, material conflicts.
• Documentation: write down the recommendation and the reasons for it.

Expect questions about your income, savings, other retirement assets and when you will need the money. If an agent does not ask, that is a warning sign. A licensed agent at Maxout will explain the options and fees in plain words, and prices, rates and approval depend on your state, the insurer and underwriting.