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Is An Index Annuity Fixed Or Variable

Stan Haithcock
January 10, 2022
Is An Index Annuity Fixed Or Variable

The question is: is an indexed annuity fixed or variable? There's a lot more to it than just the short answer. I would like to go through what a fixed indexed annuity is, an indexed annuity, and a variable annuity and tell the differences in both.

Variable Annuity

Just basics, let's talk about fixed indexed annuities and variable annuities. Variable annuities are, in essence, security. It's like a stock bond, ETF, etc. You have to be licensed to sell just like a stock or mutual fund. A variable annuity was designed and developed around 1955 for tax-deferred growth. Inside of a variable annuity, there's what's called separate accounts, me and you call mutual funds inside the variable annuity, but used outside of an IRA, that market growth can grow and compound tax-deferred. That is a variable annuity; they have their place. I don't sell variable annuities because I only sell contractual guarantees. But if you're a person that can manage your funds, that might be a good choice for you.

An indexed annuity is not a variable annuity; it’s a fixed annuity, it's not a security. It's a life insurance product designed in 1995 and brought to the public in 1995 to create enhanced C returns, a little bit better than CD returns. Since 1995 historically, that's what it's done even though that's not how it's sold. It's sold as market upside with no downside, etc.

'Well, if it sounds too good to be true, it is every single time with an annuity, but that doesn't make indexed annuity a lousy product.'

Indexed Annuity

Now that you know that indexed annuity is not a variable annuity. Let's focus on index annuities because I'm assuming that's why you're here. You want to understand why that banker or agent or the lousy chicken and seminar guys try to sell you an indexed annuity. Is it as good as it sounds? Let's be clear here. I'm not a huge fan of how they're sold in the pitches out there. The indexed annuity is a good product; it’s a CD-type product, It's a principal protection product, but that's not how it's sold. It sold with sayings like; market upside with no downside, free up-front bonus for signing, free long-term care benefits with no underwriting.

Well, if it sounds too good to be true, it is every single time with an annuity, but that doesn't make indexed annuity a lousy product. Let's go through the limitations and the benefits of an indexed annuity, where it fits and how it works, and things like that. From a 30,000 foot view, once again, I encourage you to get the book just because I go into detail on how everything works. Let's talk about the gains; everyone’s looking for market upside with no downside. That's not what it was designed to do; it was designed to create CD returns.

Call Options

In essence, the accumulation value engine on an index annuity is a call option, a legal wager; I guess to say, hey, the market will go up, and I want to make sure that I capture that up. An indexed annuity limits those gains; you’re not going to get all of it. They have what they call caps, a capital limitation of spread, which has a limitation, and the annuity companies can change those rules at their discretion. But don’t buy it for market upside; buy it for principle protection or buy it for CD-type returns, and if you have one of those anomaly years where it returns more than that, that's great. But understand that the blended return a little bit more over time than CD rates, which is a good thing.

Income Rider

The other thing about index annuities that you can do, which I like, is a very efficient delivery system for an income rider. An income rider is an attached benefit to a policy that you can use for future income needs. In essence, you have two calculations: The indexed annuity calculation, the accumulation value, and then the income writer value. It does have its place in a portfolio. Kurt called me the other day, and he said Stan, I'm getting pips this index annuity, and there's an index attached to it that I'm never heard of in my life. Now a current trend in the indexed annuity sales world and the carriers are backtesting. They've created an algorithm to backtest for a return. They're looking for a specific return. In other words, if you owned it ten years ago, this would have been the return. Then they're taking that basket the algorithm produces and attaching a name to it. Funky names like, there's just a bunch of names. Anyway, that's the new thing in the business right now. When index annuities first came out, the S&P 500 was the key index that's out there.

Back-Tested Numbers

Currently, a couple of states are getting upset with these back-tested return scenarios that are being sold with these made-up out of air indices. They're saying that I don't know if this will go through because the insurance lobby is pretty tough. If the index is not in place in the marketplace for over ten years, it cannot be used in an indexed annuity. There's a part of me that agrees with that because if you make indices up out of mid-air, and then you tell a client, well, if you'd owned it ten years ago, this is the return you would have gotten, and it's only been in place for a month, that seems a little bit off to me. I don't like that. It perpetuates that the sales environment is too good to be the actual situation with indexed annuities; I mean, the limitations of indexed annuities revolve around, in my opinion, the misleading and over-hyped sales pitches that are attached to too many of them. They're not a one-size-fits-all or principal protection product that creates CD-type returns.

You can attach an income benefit writer for future income needs. That's the solution; that’s what they do. Index annuities are not variable annuity is fixed annuities. It's a life insurance product. If you're looking for the accumulation value, if you want to get a quote and say, hey, ''What's the best accumulation value?'' We'll show you the index options currently available that seem most favorable, with the understanding that you know that those can be changed by the annuity company on an annual basis, typically with an indexed annuity. Well, if you’re not as interested in the index side as the income writer side that we can attach to it, index annuity, we can run that quote to you as well. Two different quotes, two different calculations, but just put your IQ head-on with the index annuity sales pitches that you're going to hear. Because if it sounds too good to be true, it is, and really, in my opinion, the indexed annuity industry should tamper down the hype and just tell people the truth because most people, if they understand it fully, are going to make an excellent informed decision.

Never forget to live in reality, not the dream®, with annuities and contractual guarantees! You can use our calculators, get all six of my books for free, and most importantly book a call with me so we can discuss what works best for your specific situation.

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