How Do Indexed Annuities Work

An annuity is actually a contract between an individual and an insurance company. It guarantees that the insurer will make regular payments to a beneficiary in exchange for a sum of money. The advantage to this arrangement is that it can guarantee retirement income the disadvantage is that the payments are very vulnerable to inflation.

Protection from Inflation

An indexed annuity is an attempt to create an annuity that is less vulnerable to inflation. In an indexed plan the insurer invests part of the investors’ money in a stock market index such as the S&P 500. Such an index is actually a list of stocks that meet certain criteria. The S&P 500 is a list of the 500 largest publicly traded companies in the USA.

The reason this protects retirement funds from inflation is that the S&P 500 usually increases in value by about 12% a year. The historic rate of inflation is around 4-5% a year. Since the annuity is designed as a long term investment the usual gains in the stock market should cancel out losses.

Added Layers of Protection

You might ask: why is this any better than an S&P indexed fund? The answer to that question is that indexed annuities provide additional layers of protection. The plan includes both investment and a traditional fixed annuity.

The fixed annuity provides a guaranteed return of around 3% a year so the investor will always get some income. Indexed funds can lose money in bear markets the annuity is designed as insurance against bear markets. The investor will not lose his or her principal.

Some of these plans have mechanisms that lock in higher rates of return on the indexed portion. If the index pays 12% in one year and 5% the next the plan will still pay at 12% which guarantees income.

Other Indexed Annuity Benefits

There are some other benefits to indexed annuities. They are regarded as retirement plans by the IRS so they are tax-deferred. That means no income tax is due on funds in one until they are withdrawn. This means any money saved and any money the plan makes will not have to be reported on your tax return.

There is no limit to the amount of money a person can invest in an annuity. There are strict limits to investment in 401ks and IRAs. Higher income individuals can invest as much as they want in one.

Most indexed annuities contain a life insurance policy so they allow a person to invest and buy additional life coverage at the same time. It is also possible for a person to inherit funds in one without paying inheritance or income taxes. It is also possible to give to $10,000 in funds from one as a gift without paying taxes.

Who Should Invest in Indexed Annuities?

An indexed annuity is designed only as a retirement plan. Any other use of one would be costly and make little sense. The main reason for this is federal tax law which imposes a 10% tax penalty on funds taken out of annuities by people under 59½ years old.

Under this provision a 55 year that took $10,000 out of an indexed annuity would pay $1,000 in additional taxes. To make matters worse he would still have to pay his normal federal income tax on those funds.

Most annuities charge you for early withdrawal of funds. Some plans have a vesting schedule of fees that charge a percentage of the funds withdrawn. Others have a flat fee.

This means it is not a good idea to put any funds you might need in the near future in an indexed annuity. The tax penalties and additional charges make it just too costly. These vehicles should only be used as retirement plans by those close to or over age 59½.

Steven Hart is a freelance writer and a Financial Advisor from Cary, IL. He writes about Annuity topics like Annuities Explained, Fixed Income Annuity, and Annuity Leads.

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Big Four Rating Companies

The Big Four ratings companies are some of the most important institutions in the US financial market. These companies evaluate a wide variety of institutions and financial products for security and other factors. The ratings they give to some products such as bonds determine their value and security.

The Big Four are Standard & Poor’s (S&P), Fitch, Moody’s and A.M. Best. There are some other ratings agencies out there. If an investment or company rating comes from a company other than one of these four it should not be accepted as valid.

Why the Big Four Matter to You

The Big Four perform a wide variety of research and analysis about the operation of institutions such as insurance companies. They make this effort in order to determine how likely such an institution is to default or not its obligations.

That means they try to figure out if an insurance company is actually capable of paying off on the policies it issues. They also rate insurance companies and other institutions on their financial security. The higher the rating a company receives, the more secure it is supposed to be. Generally, policies and annuities from highly-rated insurance companies are considered to be among the safest investments in world.

You can use the ratings the Big Four issue to evaluate the security of an insurance company. These ratings can show you how safe the company is and if you should entrust them with your money. The ratings are based on a careful analysis of the company’s finances and operations

Big Four Ratings Explained

The ratings issued by the big four should always be treated with a little skepticism. These ratings are based upon educated guesses about the financial state of a company made by financial analysts. The analysts look at such factors as the amount of money a company has and the risks it is taking. Therefore they are opinions, opinions made by experts and based upon a large amount of research, but opinions nonetheless.

There has been some criticism of the Big Four in recent years. Some observers noted that they gave high ratings to some financial institutions that collapsed during the economic meltdown of 2007-2008. The gigantic insurance company AIG was given good ratings shortly before it had to be saved from collapse by a government bailout. This indicates that there are risks that the Big Four cannot identify or evaluate.

A.M. Best

A.M. Best concentrates on the insurance company. It issues ratings and evaluations of individual insurance companies. Its’ data products are widely used in the insurance industry. Any change in the ratings of an insurance company is announced at A.M. Best’s website. Evaluations of individual insurance companies are also available.

Standard & Poor’s

Standard and Poor’s or S&P is the best known of the Big Four. It compiles the S&P 500 upon which many index funds are based. S&P attracted attention in 2008 by downgrading US Treasury Bonds. S&P is primarily a securities and equities ratings agency. It issues ratings of individual companies including insurance companies.

Moodys

Moody’s is primarily a bond and credit ratings firm. Its’ analysis of corporate securities is highly respected. Moody’s pays less attention to the insurance industry than the other three big ratings firms.

Fitch Ratings

Fitch specializes in corporate ratings and evaluation of institutions. It will evaluate everything from insurance companies to countries. Fitch places a strong emphasis on rating the insurance industry. Fitch Ratings also evaluates a wide variety of investment products including funds.

Steven Hart is a freelance writer and a Financial Advisor from Cary, IL. He writes about Annuity topics like Ordinary Annuity, Retirement Annuity, and Income Annuity.

How Safe are Annuities

Over the last twenty years we have seen large amounts of investment income vanish in market volatility. At the same time all manner of supposedly “safe” retirement mechanisms including pensions have become unreliable. So it’s not surprising that many people ask how safe are annuities?

The answer to this question is that most annuities are very safe. They are guaranteed by both major insurance companies and state governments. There are some limits to these guarantees that you should be aware of though.

Only as Safe as the Company that Issues It

An annuity is only as safe as they company that issues it. A plan issued by a top rated insurer like New York Life will be very secure. New York Life has been around over 150 years. More importantly it has received high rankings for financial security from the Big Four ratings firms.

These companies A.M. Best, Moody’s, Standard & Poor’s (S&P) and Fitch’s rank companies for their financial stability. New York gets the highest financial ratings from all of them. As long as an annuity is issued by a highly-ranked insurance company it should be fairly safe. Persons with one will receive the payments.

Annuities are not insured by the FDIC but they are insured by state governments. Most state governments insure annuities for up to $100,000 and some states insure them for up to $500,000. This provides an added layer of protection that most retirement products lack.

The Insurance Industry

The insurance industry itself is very secure and has survived serious economic turbulence in the past. Major insurers like New York Life and John Hancock survived the Civil War, several depressions in the 19th Century, World War I, The Great Stock Market Crash of 1929, the Great Depression, World War II, the Cold War, inflation, the stock market bubbles in the 1980s and 1990s, the Economic Meltdown of 2007-2008 and the Great Recession. Therefore they are likely to be around and making annuity payments for centuries to come.

It should be noted that some sort of outside catastrophe could destroy the insurance industry. The odds of such a catastrophe occurring are much lower than a collapse of the stock, real estate or gold markets. History indicates that the prices of stocks, gold and real estate collapse every 20 to 30 years. The major insurance companies have weathered those storms and kept their value. The risks in annuity investment are far lower than those in other vehicles.

Not all Annuities are Created Equal

There are some kinds of annuities that are less safe than others. A straight fixed annuity issued by a top rated company is one of the safest investments in existence. Such a plan is guaranteed to payout but the value of the payments can be destroyed by inflation.

Indexed annuities that are partially invested in the stock market can offer a higher rate of return. Unfortunately they can be vulnerable to the same forces that make the stock market so volatile. There are some indexed plans that have mechanism to lock in higher rates of return. If Jane’s indexed annuity had a rate of 12% one year and 5% the next, she would receive the 12% rate of return. Not every indexed plan has this feature so you have to be very careful when shopping.

Something else to remember is that there are costs to withdrawing funds from annuities early. Many plans feature vesting charges and other fees so you will have to pay to get your own money. People under 59½ years old will usually have to pay a 10% tax penalty on early withdrawals because the IRS considers annuities tax-deferred retirement plans. Therefore it is not a good idea for persons under 50 to place a lot of money in an annuity even though it is usually a very safe investment.

Steven Hart is a freelance writer and a Financial Advisor from Cary, IL. He writes about Annuity topics like Single Premium Immediate Annuities, What is an Annuity, and Current Annuity Rates.

Top Annuity Companies

Security and stability are the two most important factors when picking an annuity company. After all you want the company to be around and sending you a payment when you are 90 years old and unable to work. The reason you buy an annuity is to keep yourself from being broke and retired at some point in your life.

Characteristics of a Good Annuity Company

The best way to ensure that your retirement investment will be secure is to pick a top annuity company. A top annuity company will have these characteristics: it will have a large market capitalization (a lot of money), a management team that refuses to make risky decisions, and high ratings from the four big insurance industries ratings firms; Fitch, A.M. Best, Moody’s and Standard & Poor’s (S&P). These companies rate the companies for factors like market capitalization and investment strategies.

There are several websites that list this information. A top company will get the highest or next to highest rankings possible form each firm. The best companies will be evaluated by all four companies and get a top rating from each.

Unfortunately not every company offers every kind of annuity. Therefore it is best to determine the plan that you want and pick the most secure company that offers that plan. This way you can get the most secure product possible and lock in long term income.

Some Really Good Annuity Companies

There are some really good annuity companies out there. Unfortunately these organizations will not always advertise their products so may have to go to them. In most cases you will need to locate an agent that sales their products in your area. Quotes on prices for annuities from these insurers can be found online.

John Hancock Financial is an old-line Boston insurance company that has been in business for nearly 150 years. It is currently owned by Canadian insurance giant Manulife and has a market capitalization of $16 billion. Hancock specializes in variable annuities. It was rated A++ (the highest rating) by A.M. Best, Aa3 (the fourth highest rating) by Moody’s, A+ (the second highest rating) by S&P and AA (the third highest rating by Fitch’s).

Jackson National Life Insurance has only been around for 50 years but it is one of the biggest and most respected players in the annuity game. Despite its age Jackson has a capitalization of $10 billion and it is owned by one of the biggest insurers in the world the Prudential. Jackson offers a wide variety of annuity products but specializes in indexed annuities. Jackson was rated AA-(fourth best) by Fitch’s, AA(second best) by S&P, A1(fifth best) by Moody’s and A+(second best) by A.M. Best.

New York Life is America’s largest mutual insurance company. Long considered the gold standard in insurance companies, New York Life specializes in fixed annuities. New York Life is one of the few companies to receive the highest ratings from the Big Four ratings firms: an A++ from A.M. Best, a AAA from S&P, an Aaa from Moody’s, and an AAA from Fitch.

MetLife another US insurance giant known for its advertising campaigns offers variable, fixed and income annuities. MetLife has more than Snoopy going for it the company has $14 billion in capitalization. It also has some great financial ratings AA (second best) from Fitch, Aa2 (third best) from Moody’s, AA- (fourth best) from Standard & Poor’s, and A+ (second best) from A.M. Best.

ING the Dutch financial giant has become one of the largest and best respected providers of annuities in the US. The company has purchases several large US insurance and annuity providers including ReliaStar. ING offers fixed, immediate and indexed annuities. ING has received some very high financial strength ratings: A+ (second best) from A.M. Best, AA-(fourth highest) from S&P, Aa3 (fourth highest) from Moody’s and AA-(fourth highest) from Fitch.

There are many other good annuity companies out there so be sure to shop around. The average person should have no problem finding a good secure annuity that meets his or her needs.

Steven Hart is a freelance writer and a Financial Advisor from Cary, IL. He writes about Annuity topics like Annuity Definition, Annuity Rate, and Best Annuity Rates.

Top Life Insurance Companies

Here is a question that most consumers never ask but should: how safe and secure is your insurance company? Is the company that issued your life insurance policy going to be in business 30 or 40 or 50 years from now when your heirs will be expecting a payment? Most people simply lack the information to answer these questions.

Despite what some people think insurance companies can go out of business. Some of them are mismanaged, or get looted by greedy executives. In 2008 AIG the largest insurer in the United States, needed a government bailout to keep from going out of business.

Therefore it is critical that you know how secure your insurance company is. Unfortunately most people lack the time and resources to research and evaluate insurance companies. Fortunately there are companies that will perform this critical task for you.

The big four ratings companies: A.M. Best, Moody’s, Fitch and Standard & Poor’s(S&P) evaluate insurances for risk, credit worthiness and other factors and rank them. When see a list of top insurance companies it is almost always based on their rankings.

Top Life Insurance Companies

The Big Four rated these companies as the top ten issuers of life insurance in the United States in 2010. These are not necessarily the largest companies they are the most secure.

  1. New York Life
  2. Prudential Insurance Company of America
  3. TIAA-CREF
  4. Lincoln National
  5. Met Life
  6. Genworth Financial
  7. AFLAC
  8. Northwestern Mutual
  9. Principal Financial Group
  10. Massachusetts Mutual Life Insurance

You have probably heard of some of these companies but not all of them. Part of the reason why these companies are secure is that they concentrate on life insurance and related products. They stay out of riskier fields like corporate insurance, auto insurance, homeowner’s insurance, and fiduciary bonding. New York Life actually trimmed some of its offerings to lower risks.

The list is only a partial one there are quite a few other good insurance companies out there that are not in the top ten. A top insurer will have an A++ rating from A.M. Best, an Aa3 rating from Moody’s, and a AAA rating from both S&P & Fitch.

Finding a Top Rated Insurance Company

Always check the ratings of life insurance companies yourself before buying a policy. The ratings are available online at a number of websites.

They are also available at some of the insurance company’s own websites. The top insurers will usually make the ratings reports available at the company’s website. One good way to evaluate an insurer is to see what ratings reports it posts online. If you see no ratings reports posted or only ratings from one agency that’s a sure sign the company has poor ratings. So it is a good idea to check the company’s website.

You can also find reports and ratings of individual insurers at A.M. Best’s website. . Best posts press reports about changes to insurance company ratings on its webpage. So you can keep track of recent changes there.

Shopping for Life Insurance

The best way to shop for life insurance is to check the top insurance companies, and determine which one of them has the products you want or need. It is a good idea to keep your life insurance separate from your car, health, business or homeowner’s policies. Some of the top life insurers will not issue those policies.

That is why it can be a good idea to go to a separate agency for your life insurance. Your regular insurance agent may try to talk you into bundling your life and other policies. That can be a good deal for him or her because it increases his or her commission. It may not be a good deal for you.

One good way to find an agent that offers the life insurance you want is to identify the life insurance company you want. Then check their website to find an agent that offers that insurance in your area.

Steven Hart is a freelance writer and a Financial Advisor from Cary, IL. He writes about Annuity topics like Annuity Calculator, Annuity Interest Rates, and Annuities Good or Bad.