Indexed Annuities Promise Low Risks

Many indexed annuities also use a “participation rate” which limits annual gains to a percentage of the market’s return. With an 80% participation rate, the investor would make 8% if the market rose 10%.

Critics also point to high “surrender charges,” fees charged on money withdrawn from the account before a given period expires. These are often on a sliding scale, sometimes charging as much as 10% in the first year and gradually falling to zero. Sometimes surrender charges last more than a decade, though there may be no penalty on withdrawals below a set limit.

Where would an indexed annuity fit into a portfolio? Generally, these are more like fixed-income investments than stocks. They may pay more than certificates of deposit, while offering more safety than a stock investment. But the combination of caps, participation rates and surrender changes can keep returns well below what the investor could earn with a diversified stock investment.

A key question: Can you afford to tie your money up long enough to avoid surrender charges and get real gains? If your money would have to stay in the annuity for 10 or 15 years, there’s a good chance you’d do better in an indexed mutual fund or ETF, as you’d have time to ride out any downturns and would not be limited by caps or participation rates.

The National Association of Insurance Commissioners has an extensive guide comparing indexed annuities to fixed and variable annuities. Also, many state insurance regulators have buyer’s guides, such as this one from Washington.

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