15.2 Fixed Annuities
Key Takeaways
Fixed annuities guarantee a minimum interest rate and protect principal.
The insurance company bears all investment risk.
Funds are invested in the insurer's general account.
MYGAs lock in rates for multiple years, similar to CDs.
Interest crediting methods include portfolio rate and new money rate.
Fixed annuities offer stability but limited growth potential.
Best suited for risk-averse investors and those near retirement.
Fixed annuities provide guaranteed interest rates and predictable returns. They are the most conservative type of annuity and are popular with risk-averse investors seeking stability.
How Fixed Annuities Work
In a fixed annuity, the insurance company guarantees a minimum interest rate and assumes all investment risk.
Key Characteristics
| Feature | Description |
|---|---|
| Interest rate | Guaranteed minimum rate, with current rate often higher |
| Investment risk | Borne by the insurance company |
| Account growth | Predictable and guaranteed |
| General account | Funds invested in insurer's general account |
| Principal protection | Guaranteed (subject to insurer solvency) |
Interest Rate Structure
Guaranteed Minimum Rate
All fixed annuities have a guaranteed minimum rate—the lowest rate the insurer will ever credit:
| Aspect | Description |
|---|---|
| Rate level | Typically 1%-3% (varies by contract and state) |
| Duration | Guaranteed for life of contract |
| Purpose | Protects owner from rate dropping too low |
| State regulation | Minimum rates may be set by state law |
Current (Declared) Rate
The current rate (or declared rate) is what the insurer is actually crediting:
| Aspect | Description |
|---|---|
| Rate level | Usually higher than guaranteed minimum |
| Duration | May change periodically (annually or more often) |
| Factors | Based on insurer's investment returns and competition |
| Not guaranteed | Can decrease (but not below minimum) |
Bonus Rates
Some fixed annuities offer bonus rates:
| Type | Description |
|---|---|
| First-year bonus | Higher rate in year one to attract buyers |
| Premium bonus | Percentage added to initial premium |
Exam Tip: Bonus rates often come with longer surrender periods or higher fees. Evaluate the total contract, not just the bonus.
Types of Fixed Annuities
Traditional Fixed Annuity
| Feature | Description |
|---|---|
| Rate renewal | Interest rate declared annually |
| Rate adjustments | May change each year |
| Flexibility | Most common type |
Multi-Year Guarantee Annuity (MYGA)
A MYGA guarantees a fixed rate for a specified period:
| Feature | Description |
|---|---|
| Rate guarantee | Locked in for 3, 5, 7, or 10 years |
| Similar to | Bank CD, but tax-deferred |
| Rate level | Often higher than traditional fixed annuities |
| At period end | Renews at then-current rates or can surrender |
Example: MYGA Rates (2025)
| Term | Approximate Rate |
|---|---|
| 3-year | 4.5% - 5.0% |
| 5-year | 4.75% - 5.25% |
| 7-year | 5.0% - 5.5% |
Rates vary by insurer and change with market conditions.
Interest Crediting Methods
Fixed annuities credit interest using different methods:
Portfolio Rate Method
| Aspect | Description |
|---|---|
| How it works | All contracts earn the same current rate |
| Advantage | Simple to understand |
| Disadvantage | New money may dilute returns for existing owners |
New Money Rate Method
| Aspect | Description |
|---|---|
| How it works | Rate tied to when premiums were received |
| Advantage | Returns reflect actual investment environment |
| Disadvantage | More complex; different "buckets" of money earn different rates |
Tiered Interest Rate
| Aspect | Description |
|---|---|
| How it works | Different rates based on account balance or time |
| Example | First $100,000 earns 4%; amounts above earn 4.5% |
General Account Investments
Fixed annuity funds are invested in the insurer's general account:
Typical General Account Investments
| Investment Type | Purpose |
|---|---|
| Bonds (corporate and government) | Provide stable income |
| Mortgage-backed securities | Yield and diversification |
| Commercial mortgages | Long-term yield |
| Real estate | Diversification and inflation hedge |
| Stocks (limited) | Growth component |
Why This Matters
- General account investments are conservatively managed
- Insurance company guarantees returns regardless of investment performance
- Owner has no investment decisions to make
- Backed by insurer's claims-paying ability
Fixed Annuity Considerations
Advantages of Fixed Annuities
| Advantage | Description |
|---|---|
| Guaranteed returns | Know minimum earnings in advance |
| Principal protection | No risk of investment loss |
| Simplicity | No investment decisions required |
| Tax deferral | Earnings grow tax-deferred |
| Predictability | Easier retirement planning |
Disadvantages of Fixed Annuities
| Disadvantage | Description |
|---|---|
| Lower growth potential | May not keep pace with inflation |
| Opportunity cost | May underperform market investments |
| Surrender charges | Limited liquidity during surrender period |
| Interest rate risk | Locked in if rates rise after purchase |
| Insurer credit risk | Depends on insurer's financial strength |
Suitability Considerations
Fixed Annuities May Be Suitable For:
| Profile | Why Fixed Annuities May Fit |
|---|---|
| Risk-averse investors | No investment risk |
| Those near retirement | Stability and income focus |
| Conservative savers | Predictable growth |
| CD alternatives | Better rates with tax deferral |
Fixed Annuities May NOT Be Suitable For:
| Profile | Why Fixed Annuities May Not Fit |
|---|---|
| Young investors | Long time horizon favors growth |
| Those needing high returns | Growth potential limited |
| Investors comfortable with risk | May prefer variable products |
| Those needing liquidity | Surrender charges limit access |
Key Takeaways
- Fixed annuities guarantee a minimum interest rate and protect principal.
- The insurance company bears all investment risk.
- Funds are invested in the insurer's general account.
- MYGAs lock in rates for multiple years, similar to CDs.
- Interest crediting methods include portfolio rate and new money rate.
- Fixed annuities offer stability but limited growth potential.
- Best suited for risk-averse investors and those near retirement.
In a fixed annuity, investment risk is borne by:
The annuity owner
The annuitant
The beneficiary
The insurance company
A Multi-Year Guarantee Annuity (MYGA) is most similar to:
A mutual fund
A bank certificate of deposit (CD)
A variable annuity
A stock portfolio
Fixed annuity funds are invested in the insurance company's:
Separate account
General account
Client's personal brokerage account
Government securities only
The guaranteed minimum rate in a fixed annuity:
Changes monthly based on market conditions
Is the lowest rate the insurer will ever credit to the contract
Is always higher than bank CD rates
Only applies during the first year
Sections you finish are checked off in the contents.