6.2 Fixed and Immediate Annuities

Fixed and Immediate Annuities

Annuities are classified along several axes the exam loves to combine: by premium payment (single vs. periodic), by when income begins (immediate vs. deferred), and by how interest is credited (fixed, variable, indexed). This section covers the fixed-interest crediting method and the immediate income-start timing.

How a Fixed Annuity Credits Interest

A fixed annuity is funded into the insurer's general account, so the insurer - not the owner - bears investment risk. The owner receives:

• A guaranteed minimum interest rate stated in the contract (often 1%-3%), which the credited rate can never fall below.
• A current (declared) rate the insurer sets periodically, usually above the minimum, reflecting current portfolio yields.

Because principal and a minimum return are guaranteed, a fixed annuity behaves like a tax-deferred, insurance-company CD. The trade-off is limited upside: when markets soar, the fixed annuity still credits only its declared rate.

Premium Classification

Note a structural rule: an immediate annuity must be a single-premium contract. You cannot start lifetime income immediately while still paying premiums, so a periodic-premium immediate annuity does not exist.

Immediate vs. Deferred (Timing)

An immediate annuity begins income payments within one payment period of purchase - typically within 12 months (e.g., the first monthly check 30 days after deposit). It is funded by a single premium immediate annuity (SPIA). There is no real accumulation phase; the lump sum is converted straight into income.

Exam tip: "Immediate" describes WHEN income starts, not how it is invested. An immediate annuity can be fixed or variable. "Single premium" describes HOW it is funded.

Worked Example: SPIA Income

A 70-year-old deposits $200,000 into a single-premium immediate life annuity. The insurer's payout factor for a 70-year-old male is $6.20 per $1,000 of premium per month.

• Monthly income: ($200,000 / $1,000) x $6.20 = 200 x $6.20 = $1,240 per month.
• Annual income: $1,240 x 12 = $14,880.

If instead a 60-year-old deposited the same $200,000, the factor would be lower (say $4.90), producing $980/month - the younger annuitant gets less per month because payments are expected over more years.

Market Value Adjustment (MVA)

Many fixed deferred annuities carry a market value adjustment that applies if the owner surrenders during the surrender period and withdraws more than the free amount. The adjustment moves with interest rates:

• If rates have risen since issue, the MVA reduces the surrender value (the insurer's bond holdings have fallen in value).
• If rates have fallen, the MVA can increase the surrender value.

The MVA shifts interest-rate risk on early surrender back to the owner, separate from the standard surrender charge.

Surrender Charges and Free Withdrawals

Most deferred fixed annuities impose a declining surrender charge (for example 7% in year 1, stepping down to 0% by year 8) and permit a 10% annual free withdrawal. Charges are commonly waived for death, terminal illness, or qualifying nursing-home confinement.

Equity-Indexed Note vs. Pure Fixed

A pure (declared-rate) fixed annuity should not be confused with a fixed indexed annuity. Both protect principal and live in the general account, but the declared-rate fixed annuity credits a stated rate set by the insurer, while the indexed version ties credits to a market index. For exam purposes, both are fixed products that do not require a securities license.

Guaranteed Minimum Rate in Practice

Assume a fixed deferred annuity holds $40,000 with a current declared rate of 4% and a contractual guaranteed minimum of 2%.

• Year 1 credit at 4%: $40,000 x 4% = $1,600; value $41,600.
• If the insurer later drops the declared rate, it can never credit below 2%; on $41,600 that floor is at least $832.

The guaranteed minimum is what distinguishes an insurance annuity from a bank CD: the rate floor is a contractual lifetime guarantee, not a renewal teaser.

Immediate Annuity Income Options

A SPIA holder selects how long income lasts. The exam pairs each option with its risk:

Exam trap: Straight life pays the MOST per month precisely because it offers the LEAST protection to beneficiaries. A client wanting both maximum income and a death guarantee cannot have both at once.

Inflation and Liquidity Cautions

A level fixed payment loses purchasing power over time; some SPIAs offer a cost-of-living adjustment that starts lower but rises. Because immediate annuities are generally irrevocable once income begins, a producer must confirm the client retains separate liquid assets for emergencies before annuitizing a large lump sum.