Fixed annuities offer great stability and allow the investor to feel secure with a predictable and consistent return. These contacts also usually include a guaranteed minimum rate as a protection against any adjustments made if the contract expires.
Does this mean a fixed annuity is right for you? Before deciding, let’s go over how these types of annuities work.
A fixed annuity is a specific type of contract with a pre-determined interest rate. This means that as you invest, whether in installments or with a lump sum payment, the return on that investment is predetermined and set. In this annuity, the financial institution assumes the risk made on your investment. The interest rate is locked in regardless of how the investment performs on the market. Because the investments are made in top quality corporate and government bonds, they are relatively stable.
During the accumulation period, deposits are made and funds grow. This money is tax-deferred, meaning it is able to grow without being taxed. This could be a significant advantage to the value of the account over time, especially to those in a higher tax bracket. Taxes are applied only in the payout phase.
The amount accrued during the accumulation phase becomes available in the payout phase, usually several years into the contract. During the initial surrender period (which can last up to 15 years) there will be significant penalties to pay if the money is withdrawn too early. In the payout phase, the investor has the option of periodically withdrawing small portions of the annuity or accepting regular deposits as a form of income.
The amount paid to the annuity holder is determined by several factors including the number of premiums paid, number of payments expected, the age of the annuitant, and the interest accumulated. The payout phase can last for a set number of years or through the remainder of the annuity owner’s life.
Fixed annuities typically allow 10% of the invested funds to be withdrawn over the course of a year.
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