Definitions

Fixed Annuity A fixed annuity is an insurance product designed to provide long-term, tax deferred savings. A fixed annuity can provide a guaranteed minimum rate of return but may, however, have few investment options. You do not receive a tax deduction on the money you deposit, but you pay no taxes until you begin making withdrawals. There are no annual contribution limits or income limits. A fixed annuity could be a good option if you wish to increase your tax deferred savings. Fixed annuity contracts will have different rules, restrictions and expenses that will vary by insurance company and by product within an insurance company. To fully understand a fixed annuity, make sure you fully understand all options, restrictions and expenses for your specific annuity before you enter into such a contract. This calculator is not designed to describe a specific insurance product and should be used as a general illustration of the tax deferred feature of a fixed annuity. Starting balance This is the initial amount that you will contribute to your Fixed Annuity. Annual contribution The amount you will contribute to your annuity each year. Current age Your current age. Withdrawal age Age you wish to withdraw your annuity balance. This calculator assumes that the year you start withdrawing funds, you do not make any contributions to your annuity. So if you start withdrawals at age 65, your last contribution would have happened when you were actually age 64. Current tax rate The current marginal tax rate you expect to pay on your taxable investments. Retirement tax rate The marginal tax rate you expect to pay on your investments at retirement. Surrender charges Press the "Enter Data" button to input surrender charges for this Annuity. You are allowed to enter the year and percent of the surrender charge. Surrender charges are a percent of the annuity balance you will be charged if you withdraw your annuity balance early. The actual surrender charges vary widely from annuity to annuity. Make sure to check with your investment advisor if you are unsure of the surrender charges that may apply to your particular annuity. Taxable account's expected rate of return The annual rate of return you would expect if you deposited this money into a taxable account. This calculator assumes that your return is compounded annually and your contributions are made at the beginning of each year. Initial interest rate This is the initial guaranteed interest rate for your fixed annuity. Years initial rate is guaranteed The number of years the initial interest rate is guaranteed. Expected average interest rate This is the interest rate you would expect to average after the initial interest rate is no longer guaranteed. Minimum guaranteed interest rate This is the interest rate that is guaranteed after the initial rate has ended. Understanding Fixed Annuity Investments When it comes to investing for retirement, there are more options available today than ever. It's little wonder, then, that so many people are left scratching their heads when the time to select an investment product rolls around. From CDs to money market accounts to IRAs - and dozens of others - the sheer number of possibilities can be positively mind-boggling. The trick to finding the solution that's right for you lies in understanding what your ultimate goals are. If you're looking for a steady stream of reliable income that can be used to pay your day-to-day living expenses after you retire, a fixed annuity may be right for you. What is a Fixed Annuity? Before delving into what a fixed annuity is, it helps to understand what annuities are in general. At its core, an annuity is a contract that is created between an investor and an insurance company. The investor gives the insurance company money; that money grows in a tax-deferred way. Later, the initial investment - plus any gains - can be distributed back to the investor in a number of different ways. The way in which the funds are redistributed generally defines which type of annuity is being used. In the case of a fixed annuity, there is a guaranteed rate of return. In other words, investors will be able to rely on specific, consistent payments throughout the term of their fixed annuities. This is a stable way to receive a reliable source of income after retirement; there are no fluctuations and no surprises. Although the returns never increase, they never decrease, either. The vast majority of fixed annuities are designed to continue for the remainder of a person's life; the longer an individual lives, then, the greater the returns will ultimately be. Like other annuity products, a fixed annuity unfolds in two basic phases: accumulation and annuitization. Accumulation Phase - The accumulation phase of a fixed annuity refers to the period of time during which the annuitant builds up the value of the annuity. In some cases, people make regular contributions to their annuity accounts for several years. Other times, people make a single lump-sum payment that essentially qualifies as the entire accumulation phase or period. During the accumulation phase, an annuity's growth is tax-deferred; it is not subject to income tax. This allows investors to get the most "bang for their buck" and gives the annuity the greatest potential for growth. Annuitization Phase - After the fixed annuity has been built up, the investor begins to collect his regular payments. This period is known as the annuitization phase. A series of regular payments, based on the initial investment that was made during the accumulation phase, begins. Once the annuitization period or phase begins, income taxes on the earnings that were made on that investment must be paid. However, a topnotch fixed annuity plan will ensure that the gains far outweigh the tax burdens that are typically involved, allowing the investor to enjoy a reliable stream of income. Common Fixed Annuity Rates One thing's for sure: You're not going to get rich off of a fixed annuity. This financial product is not designed to produce massive returns. However, the bright side is that these investments are very low-risk in nature. Since you are locked-in to a specific rate, you can rest assured that you will see a consistent return from month to month. Because fixed annuities are not aggressive investment tools, their rates tend to be relatively conservative. Depending on the length of the accumulation phase, the initial investment that is made and other factors, the rate that you'll receive may vary. Fixed annuity rates tend to fall into the 1% to 4% range. It should be noted that many times, a higher rate is locked in for the first year of the accumulation phase. For instance, many popular fixed annuity products offer a 4.5% introductory rate for the first year; for years two through eight or ten, the rate may drop down to 3% or 3.5%. However, that rate is being applied to tax-deferred funds - that point should not be overlooked. Compared with other investment products, fixed annuity rates tend to be middle-of-the-road. Compared with a typical savings account at a brick-and-mortar bank - which usually yields a paltry interest rate that is well below 1% - a fixed annuity is very attractive indeed. Fixed annuities are often compared to CDs for a number of reasons; both products offer interest rates that are in the same general ballpark. Fixed annuity rates are usually well above those of money market accounts, but they tend to be far lower than the rates offered by many mutual funds. Although mutual funds offer rates as high as 10%, they carry a much higher risk for the investor. Three Popular Types of Fixed Annuities Zeroing in on fixed annuities is only the first step in the process, since there are several different types of fixed annuities available. Although there are dozens of products available, three of them tend to get the majority of the attention: fixed immediate annuities, fixed deferred annuities and CD-type annuities. A brief overview of each type is outlined below. Fixed Deferred Annuity - This is generally the most popular kind of fixed annuity, and it's the one that most people think of when the subject arises. A fixed deferred annuity refers to an annuity in which no taxes are owed until distribution of funds begins. Distribution of funds can occur via annual withdrawals of up to 10%, or it can begin upon annuitization through monthly payments. Essentially, a fixed deferred annuity is a savings account. Money is put into longer-term bonds, allowing it to grow. Although the rate of interest tends to be modest, it is applied to a longer period of time. The biggest plus associated with fixed deferred annuities is the postponement of income tax payments. Fixed Immediate Annuity - As its name implies, a fixed immediate annuity is one in which annuitization commences immediately - there is no accumulation "period." A lump sum payment is made, typically upon retirement, and the annuitant begins receiving monthly payments right away. This is a way to earn some extra money while keeping a large sum of money in a safe place. A fixed immediate annuity is ideal for those who need to pay their expenses over a long period of time. Life-only fixed immediate annuities tend to involve larger monthly disbursements; however, no refund to survivors is given upon the annuitant's death. A life-income-with-lump-sum-refund fixed immediate annuity, however, involves more modest monthly payments with a refund for survivors. CD-Type Fixed Annuities - The best way to describe a CD-type fixed annuity is that it is a cross between a fixed annuity and a CD. A fixed interest rate is usually guaranteed for a period of one to ten years; rates range between 3% and 10% during that period. Up to 10% of the funds can be withdrawn annually, although the money is then taxed as income. It should also be noted that an IRS penalty of 10% is imposed on withdrawals that are made before age 59-1/2. Fixed Annuities versus Other Investment Products: The Pros and Cons When weighing the benefits of fixed annuities versus other investment products, it helps to have a basic idea of the pros and cons that are associated with them. A few of the most important pros and cons of fixed annuities are outlined below for your convenience. The Pros of Fixed Annuities The number-one advantage of the fixed annuity, at least for most people, is tax-deferred accumulation. Although interest rates aren't as competitive as some other investment products - most notably, mutual funds - accumulation occurs on untaxed funds. Income taxes are due eventually, but only on the gains. As long as you plan on keeping your money in one place for a decent amount of time, then, fixed annuities are a great way to dodge the tax bullet for an extended period. The principal of a fixed annuity is guaranteed. This is one of the most critical aspects of the fixed annuity, and it's why investors can rely on consistent monthly payments. There is no worry about receiving less money than is needed in any given month; financial planning after retirement is more streamlined and simple as a result. Due to the relatively risk-free nature of the fixed annuity, there is no serious threat of seeing the principal slashed or reduced dramatically. One of the biggest fears that many people have when approaching retirement age concerns monthly income. With a fixed annuity, lifetime income is guaranteed; there is no more guesswork involved. As long as you are living, you will receive the same monthly payment. This can lift a tremendous weight from the shoulders of those who wish to retire, but who are unsure about whether they can stretch their savings out for the rest of their lives. In other words, one of the biggest pros involved with the fixed annuity concerns peace of mind. The Cons of Fixed Annuities Should you set up a fixed annuity at a relatively young age, there is one major caveat that you should be aware of; just like an IRA, there is a 10% early withdrawal penalty imposed by the IRS on any funds withdrawn prior to age 59-1/2. A fixed annuity is not ideal, then, for anyone who will need to dip into their funds before age sixty or so. In many cases, withdrawals are allowed during the accumulation phase of a fixed annuity. However, annuity fees are generally assessed for doing so. The best way around this issue is letting the earnings offset those fees. It is usually best to wait at least ten years before making any annual withdrawals. Once annuitization kicks in, of course, this is no longer a concern. Inflation is one of the biggest drawbacks that is associated with the fixed annuity. Sure, you're going to receive the same payment every single month until you die; however, your purchasing power is bound to decrease due to the forces of inflation. This is a point that must be kept in mind, and it should play a role in determining how long your accumulation phase will be and how much you plan on investing before annuitization begins. Although there are guarantees and many other optional products available for protecting heirs, a bare-bones fixed annuity doesn't make any sort of accommodation for them. Therefore, a fixed annuity is probably not an ideal choice for someone who hasn't set up some sort of inheritance for their survivors. When shopping for a fixed annuity, be sure that whatever product you choose makes accommodations for your survivors, if that is a concern of yours. One con that many people are quick to bring up about fixed annuities is the fact that they are not insured by the FDIC, since they are offered by insurance companies. It should be noted, though, that fixed annuities are protected by each individual state, up to $500,000, by the Guaranty Association. Make sure to check the specific rules and laws for your state concerning fixed annuities before signing up for one. How do Fixed Annuities Compare with Variable Annuities? The basic difference between fixed annuities and variable annuities concerns rates of interest. The defining characteristic of the fixed annuity, of course, is the fact that interest rates are "locked in." Investors can rely on a consistent amount of reimbursement per month. Variable annuities, however, are based on variable interest rates. Some months, payments will be relatively low; other months, though, they can be very sizable. People who have several other investment accounts and who use many different investment products tend to gravitate toward variable annuities, since they aren't relying on them as their sole source of income. If you plan on using an annuity as your sole source of income after retirement, though, it's almost always best to stick with a fixed annuity. How Are Fixed Annuities Taxed? Fixed annuities are attractive to many different investors due to their tax deferred natures. The funds that are deposited into a fixed annuity account are not taxable until they are withdrawn. This allows for a higher degree of tax control, a greater potential for growth and allows earnings to compound without income taxation throughout the accumulation phase. Annuities are taxed at regular income tax rates. With that in mind, it is important to strategically plan for withdrawals. In the case of regular annuitization that occurs after retirement, a lower income tax rate will be assessed. When it comes to distribution, some annuities are paid out in lump sums while others are annuitized. In the case of a lump sum payment, your gains are taxed as ordinary income and no capital gains tax break is given. This can take a serious toll on a fixed annuity investment, so it is critical to plan accordingly. With annuitized payments, income tax is levied against earnings. The untaxed portion of the monthly payment that you will receive falls under what is known as the exclusion ratio. Because your monthly payment will be the same throughout the annuitization phase - which will continue until your death - it should be very easy for you to see the breakdown on these tax payments. Variable annuities are notorious for their complexity when it comes to tax payments, since month-to-month earnings can vary considerably. Annuity Guarantees: Are They Worth It? Most of the time, annuity guarantees apply only to variable annuities. However, you're sure to run into them from time to time as you shop for a fixed annuity. Some people claim that annuity guarantees are essential if you want a truly risk-free retirement investing experience. Basically, these guarantees are forms of insurance that protect against various potential problems. For an annual fee, you can sign up for a Guaranteed Minimum Income Benefit (GMIB) policy. As the name implies, this guarantees a minimum amount of return for an annuity investor. Since fixed annuities inherently include standardized monthly payments, a GMIB policy is unnecessary. A Lifetime Withdrawal Benefits (LWB) is another type of guarantee. For an annual fee, this policy allows you to make withdrawals of 5% to 7% on your annuity, no matter what its account value is. This may be a good option for someone who begins paying into an annuity at a fairly young age. However, the vast majority of people aren't going to realize any concrete benefits by paying for this sort of guarantee - or for most annuity guarantees, for that matter. Who Are Ideal Candidates for Fixed Annuities? The ideal candidate for a fixed annuity would be a single retiree who isn't going to have many other reliable sources of steady income. In other words, this person won't have a lot of other investment accounts, pensions or other regular income coming in. Because they are single, they only have to worry about their own expenses; the monthly amount that they will receive from a fixed annuity should more than suffice, in most cases. Additionally, the ideal candidate for a fixed annuity won't have aggressive investment goals and won't be looking to realize exceptional gains or profits. If they are, they will need to look into more aggressive investment products like mutual funds. For the most part, a retired couple who has many other forms of investment income isn't going to get a whole lot out of a fixed annuity. They'll be needlessly tying up a significant chunk of money in something that isn't going to produce many concrete benefits for them. Although some financial advisors will try to promote the tax benefits of a fixed annuity to such folks, there are many other investment options that provide exceptional tax benefits in such scenarios. Popular Fixed Annuity Brands and Products Many of the most familiar investment companies offer fixed annuity products. Metlife, ING, Prudential, Mass Mutual, Pacific Life and John Hancock all offer fixed annuities. The nice thing about working with a reputable, well-known company is that your risk is reduced even further. The only real risk involved in a fixed annuity occurs when the insurance company shuts down. With a major name like ING or Prudential, the chances of that happening are slim to none. These companies tend to have exceptional ratings, too, which also improves the experience of investing with them. One of the most popular fixed annuity offerings among the most popular brands today is John Hancock's JH Signature Fixed Annuity. This product offers a 10-year accumulation phase and a 4.50% introductory interest rate. ING's ING Guarantee Choice Annuity is another first-rate option. This product also offers a 10-year accumulation phase and a 4.50% interest rate for the first year. The remaining years yield an interest rate of 3.50%. John Hancock and ING are both highly reputable. There are several other topnotch choices available out there when it comes to fixed annuities. It is essential to shop around, since rates can vary considerably from one company to the next. Since you're going to be in it for the long haul, it is crucial to find a product that makes you comfortable and happy. Be sure to look over all of the fine print, too, whether you choose a fixed deferred annuity, a fixed immediate annuity, a CD-type annuity or any other product. The Fixed Annuity: Reliable Retirement Income The bottom line on the fixed annuity is that it is a rock-solid choice for anyone who needs a reliable, steady source of income to pay for their expenses for the remainder of their life. While fixed annuities aren't right for everyone, they can provide a great deal of much-needed peace of mind for those who'd like to avoid uncertainty during their golden years. Be sure to speak with a financial advisor in order to find the fixed annuity that is right for you. Enjoying a stress-free retirement is a lot easier when day-to-day expenses are covered for the long term, and a fixed annuity can make that possible.