6.2 Fixed and Immediate Annuities

The Fixed Annuity: Guaranteed and General-Account Backed

A fixed annuity guarantees both the principal and a minimum rate of interest. The insurer holds the premiums in its general account and bears the investment risk; the owner is promised a stated minimum return regardless of how the insurer's investments perform. Because the insurer guarantees the rate, a fixed annuity is not a security and requires only a life insurance license to sell.

Insurers typically credit two rates: a guaranteed minimum rate stated in the contract (the floor the insurer can never pay below) and a higher current rate the insurer declares periodically based on its actual earnings. The current rate may rise or fall over time but can never drop beneath the guaranteed minimum.

The Trade-Off: Safety vs. Inflation Risk

The fixed annuity's guarantee is also its weakness. Because payments are level and the credited rate is conservative, a fixed annuity carries inflation (purchasing-power) risk: a $1,500 monthly payment that is comfortable today buys noticeably less after fifteen years of rising prices. The exam frequently pairs this fact with the variable annuity, which shifts investment risk to the owner in exchange for inflation-hedging potential.

So the classic contrast is: a fixed annuity gives a guaranteed, predictable income but no inflation protection; a variable annuity offers inflation-hedging growth potential but no guaranteed value. A fixed annuity owner bears inflation risk; the insurer bears investment risk.

Classifying Annuities Two Ways

Every annuity can be classified by how it is funded and by when income begins. The exam loves these category labels.

By premium payment:

• Single Premium (SP) — funded with one lump-sum deposit; no further premiums allowed.
• Flexible Premium (FP) — funded with varying periodic deposits; only deferred annuities can be flexible-premium, because an immediate annuity must be fully funded to begin paying.

By income start date:

• Immediate — income begins within one payment period (within about 12 months); must be single-premium.
• Deferred — income begins later, after an accumulation period.

Combining the two yields the tested acronyms: SPIA (single premium immediate annuity), SPDA (single premium deferred annuity), and FPDA (flexible premium deferred annuity). Note there is no FPIA — an immediate annuity cannot accept flexible premiums.

The Immediate Annuity (SPIA) in Practice

A single premium immediate annuity is the tool a retiree uses to convert a lump sum — a 401(k) rollover, an inheritance, a home-sale proceeds — into a guaranteed paycheck that starts right away. Because there is no accumulation phase, the entire deposit is immediately committed to producing income.

SPIAs are popular for structured settlements (paying out a legal judgment over time) and for retirees who want longevity protection without market exposure. The key exam fact: an immediate annuity is always single-premium and begins payments within one payment interval. If a question describes someone depositing $500,000 today and receiving their first check next month, it is a SPIA.

Fixed-Annuity Payout Options

When a fixed annuity is annuitized, the owner chooses how the income is structured. Life-contingent options pool mortality and pay more; guaranteed options protect a beneficiary and pay less.

Straight life always pays the most because nothing is guaranteed to a beneficiary; every added guarantee reduces the payment.

Worked Numeric: Per-$1,000 Settlement Factor

Insurers state payout as a monthly income per $1,000 of value. Suppose a SPIA is funded with $250,000 and the straight-life factor for the annuitant's age is $6.20 per $1,000.

• Straight life: 250 x $6.20 = $1,550/month

Now compare a 10-year life-with-period-certain factor of $5.85 per $1,000 on the same $250,000:

• Life w/ 10-year certain: 250 x $5.85 = $1,462.50/month

The $87.50 monthly difference is the cost of the guarantee — the period-certain feature promises a beneficiary at least ten years of payments if the annuitant dies early, and the annuitant pays for that protection through a lower check. This calculation proves the rule that adding any guarantee lowers income, and it is a frequent exam computation.

Recap: fixed annuities guarantee principal and a minimum rate from the general account (life license only), bear inflation risk, are classed by premium and income-start, and pay the most under straight life.

Market-Value Adjustment and the General Account

Some fixed deferred annuities add a market-value adjustment (MVA): if the owner surrenders early, the cash value is adjusted up or down depending on how current interest rates compare to the rate at issue. When rates have risen since purchase, an MVA reduces the surrender value; when rates have fallen, it can increase it. The MVA is separate from, and stacks with, any surrender charge.

Underlying all of this is the general account — the insurer's pool of conservatively invested assets that backs every fixed guarantee. Because the insurer, not the owner, decides how the general account is invested and promises the result, the regulator treats fixed annuities as insurance, not securities. That single fact explains why only a life license is required and why no prospectus is involved, in sharp contrast to the variable annuity covered in Section 6.4.