What You Should Know About Choosing The Right Fixed Index Annuity
With more and more people looking for safe money alternatives, it is no wonder the sales of fixed index annuities (FIAs) have increased from $2.99 billion in 1997 to over $14 billion in 2003.
The upside potential and downside protection of FIAs is particularly appealing to bear-bitten clients who are looking to restore nest eggs but are not willing to risk the entire amount on another bad market.
The question is, with so many complicated FIA product designs on the market, how does an advisor choose the product that is the right fit for the client?
A good place to start the selection process is to understand the 5 parts of the typical FIA product. They include: the index participation rate; the crediting method; the margin or yield spread; the cap; and the annuitization feature. While there are certainly other factors to consider, these 5 can provide the foundation that helps cut through the FIA product clutter.
Here are some highlights on each part:
Index Participation Rate: The index participation rate, or IPR, is the percentage of any index gains that a FIA may receive. For example, if the FIAs index participation rate was 60%, the FIA would benefit from 60% of the indexs increase. Using a 60% IPR, if the index increases by 15%, the FIA hypothetically would benefit from 9% of the gain. Example: index gain x IPR = FIA credited interest; or (15% index gain x 60% IPR = 9%). Many FIA companies guarantee that this rate will never change during the FIAs contract term. If the IPR is not guaranteed through the term, the IPR could be reset at a lower rate.
Crediting Method: The crediting method is how the FIA calculates the interest credited to the policy. Currently, over 40 different crediting methods are being offered by FIA carriers. What follows are descriptions of some of the more popular ones:
Term End Point-to-Point: This compares the change in the index used to credit the interest from a beginning point, such as the beginning of the contract term, to an ending point, such as the end of its term. Point-to-Point may work best when the index to which it links is increasing, since it can benefit from a lower beginning and higher ending point. Also, a company offering a FIA employing this method may offer a higher IPR or higher cap due to more efficient pricing of the financial instruments used which determine IPRs and caps.