Equity Indexed Annuity Crediting Differences

Annuities are an excellent addition to most retirement portfolios because of the way they are focused on generating monthly income.

Other investments may or may not earn enough to “throw off” earned interest as income, and it becomes difficult calculating what does and does not pay (and how much) when stocks go up and down, interest rates change and other unpredictable economic occurrences crop up.

Annuities are guaranteed to pay a certain amount if they are funded according to the agreement and managed according to plan. In fact, it’s among the very few investment vehicles that can make that promise.

Fixed annuities may fit the needs of those seeking to sustain their lifestyle through receiving a guaranteed set rate of interest over a specific period of time, with minimal risk, very much like a bank Certificate of Deposit (CD).

An indexed annuity is a type of annuity that grows and earns interest based on a formula related to a specific stock market index.

An Equity Indexed Annuity with an Income Rider is a contract between you and the insurance company which provides:

1) Guaranteed return of principal,
2) Returns linked to an index (subject to a cap),
3) Credited gains cannot be lost,
4) Guaranteed minimum interest,
5) Liquidity features (nursing home, critical illness & 10% annual withdrawal),
6) Taxes not due until withdrawal,
7) Avoidance of Probate,
8) Protection from creditors,
9) No annual fees (other than the cost of the rider depending on the carrier) and
10) guaranteed income you (or you and your spouse) cannot outlive.

Equity Indexed Annuity Crediting Methods

Funds can be allocated between the different crediting methods and each year the allocation can be changed. Most EIA’s allow for one or a combination of different indexes to be used such as S&P 500, Nasdaq-100, FTSE 100 etc.

1) Fixed Account: Usually between 2.5% -3.5%.  Fixed account crediting is good in years when the market will decline and guaranteed growth is desired.

2) Annual Point to Point with a Cap (assume 6.5%). Take the difference between the anniversary of the contract value of the index used and the end of the contract year value and apply the cap (if applicable). For example, if the index (say S&P) goes up 12% for the year of the contract, the account would get 6.5% (the cap). If the S&P went up 5% the account would get 5% and if the market went down 15% the account would stay even.  Annual Point to Point crediting is good in years when there is modest gains in the market.

3) Monthly Sum (also called Monthly Point to Point) with a monthly cap (assume 2.5%). Take the difference between the beginning of the month value of the index used and apply the monthly cap (if applicable). For example, if in the first month of the contract the S&P went up 2.75% the account would get 2.5% (the cap). If in the second month of the contract the market went up 2.10% the account would get 2.10 etc. There is no limit on negative returns each month (except for the fact that at the end of the year you can never lose money so if the crediting method yields a negative the account would stay even) so if the index would go down 3.2% in month 3 and down 3.5% in month 4, the contract would be (2.5%+2.1%-3.2%-3.5%)= negative 2.1. Hypothetically, if the S&P went up 2.5% or more each month the account would make 30% (2.5% x 12).  Monthly Sum (Monthly Point to Point) crediting is good when there are consistent gains in the market.

4) Monthly Average with a spread (assume 3%). Monthly values are added for the year and divided by 12 to get the average index value. With that value the percent gain or loss will be computed. If there is a percentage gain then the spread is subtracted from the gain to determine the credited interest rate. To illustrate:

Step 1: Note the market value as of the date of the contract. For example 970.43
Step 2: Add up all end of month values and divide by 12. For example 13,054.27/12=1087.86
Step 3: Determine gain or loss: 1087.86-970.42=117.43 points or a 12.10% gain.
Step 4: Subtract the 3% spread to determine credited amount (12.10%-3%)= 9.10%

The Monthly Average crediting method is good when the index is volatile.

If you considering this investment and are unsure if it is right for you, then you may benefit from having one of CapitalManagers’ experienced financial advisors show you the ropes and help you invest in the financial products that will best meet your goals.