Are Fixed Annuities a Good Investment?

Are fixed annuities a good investment?

The first thing to understand is that fixed annuities aren't investments in the traditional sense.

They're insurance contracts.

Stocks, bonds, ETFs, and other market-based assets are investments. Fixed annuities belong on the contractual guarantee side of your financial plan. You transfer specific financial risks to a life insurance company in exchange for guarantees written into the policy.

Once you understand that distinction, it's much easier to determine whether a fixed annuity makes sense for your situation.

Key Takeaways

• Fixed annuities are insurance contracts, not traditional investments.
• They are designed to transfer specific financial risks to an insurance company.
• Different types of fixed annuities solve different retirement needs.
• MYGAs provide guaranteed interest rates for specified periods.
• Lifetime income annuities can help create an income floor in retirement.
• Fixed annuities should be evaluated based on their contractual guarantees rather than hypothetical investment returns.

What Is a Fixed Annuity?

"Fixed annuity" is a broad category that includes several different types of insurance contracts.

Examples include:

• Multi-Year Guarantee Annuities (MYGAs)
• Fixed Index Annuities (FIAs)
• Single Premium Immediate Annuities (SPIAs)
• Deferred Income Annuities (DIAs)
• Qualified Longevity Annuity Contracts (QLACs)

These products work differently, but they share an important characteristic: they're designed around contractual guarantees rather than direct market investing.

Fixed annuities are regulated at the state level, with insurance regulators overseeing the products approved for sale within each state.

Fixed Annuities Are Transfer-of-Risk Contracts

The easiest way to understand a fixed annuity is to think of it as a transfer-of-risk contract.

You're transferring a specific financial risk to the insurance company issuing the annuity.

For example, you may want to transfer the risk of:

• losing principal
• outliving your money
• not having enough guaranteed retirement income
• leaving a specific legacy
• certain long-term care expenses

The insurance company accepts the risk covered by the contract in exchange for your premium.

That's fundamentally different from purchasing an investment and hoping it appreciates.

What Do Fixed Annuities Solve For?

Annuities generally solve four primary financial objectives using the PILL framework:

• Principal Protection
• Income for Life
• Legacy
• Long-Term Care

Before purchasing an annuity, identify which of these problems you're actually trying to solve.

If you can't identify a specific contractual need, an annuity may not be necessary.

Start With Two Questions

Instead of beginning with a product, start with two questions:

What do you want the money to contractually do?

When do you want those contractual guarantees to start?

Those two answers help determine whether you need an annuity at all.

If an annuity is appropriate, they also help narrow down which type of contract should be compared.

That's a much different process than starting with whichever annuity happens to be advertised with the highest bonus or most attractive illustration.

Fixed Annuities vs. Investments

It's helpful to draw a clear line between investments and contractual guarantees.

Investments may include:

• stocks
• bonds
• ETFs
• mutual funds
• other market-based assets

Fixed annuities are insurance contracts.

Investments are generally used when you're willing to assume risk in pursuit of returns.

Annuities are used when you want to transfer certain risks to an insurance company in exchange for contractual guarantees.

Trying to make an annuity behave like a market investment can create unrealistic expectations.

Are Fixed Annuities Good for Principal Protection?

They can be if principal protection is your specific objective.

One example is a Multi-Year Guarantee Annuity (MYGA).

A MYGA provides a guaranteed interest rate for a specific period of time. It's often compared with a bank certificate of deposit because of the straightforward nature of its rate guarantee.

If you want to protect principal while earning a contractually guaranteed interest rate, comparing MYGAs from multiple insurance companies can make sense.

What About Fixed Index Annuities?

Fixed Index Annuities are also fixed insurance products, but they work differently from MYGAs.

Instead of providing one guaranteed interest rate for the entire specified term, an FIA offers the potential to earn indexed interest based on a crediting formula.

That interest isn't the same as a guaranteed MYGA rate.

If guaranteed accumulation is your primary objective, understand the difference between a contractually guaranteed interest rate and hypothetical indexed interest before choosing between the two.

Fixed Annuities for Lifetime Income

Another major reason people purchase fixed annuities is guaranteed lifetime income.

Products such as SPIAs, DIAs, QLACs, and certain Income Riders can contractually provide income for as long as you live.

That can help fill the gap between your monthly retirement expenses and other dependable sources of income.

The objective isn't investment growth.

It's creating predictable cash flow that continues regardless of how long you live.

Creating an Income Floor in Retirement

Think about all the dependable income that will regularly reach your bank account during retirement.

That may include:

• Social Security
• pensions
• dividends
• other dependable income sources
• guaranteed annuity income

Together, these sources can create what is often called an income floor.

If Social Security and other dependable income don't cover your essential expenses, an annuity can potentially be used to fill part of that gap with contractual lifetime income.

Don't Buy an Annuity for Market Growth

Problems often begin when the line between an insurance contract and an investment becomes blurred.

An annuity shouldn't be purchased because someone shows you:

• hypothetical returns
• back-tested performance
• projected market gains
• large upfront bonuses
• non-guaranteed illustrations

Those numbers may be part of a sales presentation, but they shouldn't be confused with the contractual guarantees of the policy.

If market growth is your primary objective, compare products that are actually designed for market growth.

Upfront Bonuses Don't Change the Purpose

Some fixed annuities advertise substantial upfront bonuses.

A bonus may be part of the contract, but it doesn't turn an annuity into an investment.

There are trade-offs throughout an insurance contract, and a large bonus should always be evaluated alongside the rest of the policy.

Look at the entire contractual structure rather than choosing an annuity because one number catches your attention.

Compare Fixed Annuities as Commodity Products

Once you've identified the guarantee you need, compare multiple insurance companies offering that type of annuity.

The company name, product name, brochure, or marketing campaign shouldn't determine the winner.

For lifetime income, compare the contractual lifetime income amounts.

For guaranteed accumulation, compare the contractual rates available for the term you're considering.

The objective is to identify the strongest guarantee for your specific situation.

How Much Should Be in Contractual Guarantees?

Retirement planning doesn't have to be entirely guarantees or entirely investments.

Instead, determine how much of your financial plan should remain exposed to investment risk and how much should be allocated toward contractual guarantees.

Some people need more guaranteed income.

Others already have enough income and primarily want principal protection.

And some people may not need an annuity at all.

The appropriate balance depends on your individual retirement goals.

Where to Compare Fixed Annuities

If you're considering a fixed annuity, use our annuity calculators to compare current contractual guarantees from multiple insurance companies.

For lifetime income, compare the guaranteed payouts available for your specific age and start date. For principal protection, compare guaranteed rates and contract terms rather than relying on projected performance.

The Bottom Line

So, are fixed annuities a good investment?

Technically, that's the wrong way to evaluate them.

Fixed annuities are insurance contracts designed to transfer specific risks and provide contractual guarantees. Their value depends on whether you actually need those guarantees.

If you need principal protection, guaranteed lifetime income, legacy benefits, or certain long-term care solutions, a fixed annuity may have a role in your retirement strategy.

If you're primarily looking for market growth, you're asking an insurance contract to do a job it wasn't designed to do.

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