A Comprehensive Guide to Indexed Annuities

Shawn Plummer, CRPC

Chartered Retirement Planning Counselor

Introduction to Indexed Annuities

Indexed annuities, also known as fixed index annuities, are financial products designed to provide a balance between growth potential and principal protection. They offer interest based on the performance of a market index, such as the S&P 500, without directly investing in the market. This guide explores their features, benefits, and considerations.

How Indexed Annuities Work

Interest Credits

Interest earned on an indexed annuity is linked to a specific market index. Key components include:

  • Participation Rate: Percentage of the index gain credited to your annuity.
  • Cap Rate: The maximum interest rate that can be credited.
  • Floor: Minimum interest rate, often set at 0%, ensuring no loss of principal.

Contract Terms

Indexed annuities have various contract terms, typically ranging from 5 to 10 years. Early withdrawals may incur surrender charges, and any withdrawals before age 59½ could be subject to IRS penalties.

Indexed Annuity

Types of Indexed Annuities

Equity-Indexed Annuities

Equity-indexed annuities (EIAs) link interest earned to a stock market index performance, offering a minimum guaranteed interest rate and higher return potential based on index performance.

Fixed Indexed Annuities

Fixed indexed annuities (FIAs) offer a guaranteed minimum return and link interest to an index, providing principal protection even if the market performs poorly.

Registered Index-Linked Annuities (RILAs)

Registered index-linked annuities (RILAs) provide partial protection against market losses with higher upside potential than traditional FIAs, allowing you to choose a level of downside protection.

Pros of Indexed Annuities

Principal Protection

The principal is protected even if the index performs poorly, ensuring your investment remains intact.

Growth Potential

Returns are typically higher than traditional fixed annuities due to their linkage to market indices.

Tax-Deferred Growth

Earnings grow tax-deferred, meaning you pay taxes only when you withdraw the money, leading to more substantial growth over time.

Cons of Indexed Annuities

Capped Returns

Cap rates can limit the upside potential of your returns compared to direct market investments.


Various terms and conditions, such as participation rates and spread/margin fees, can make these products complex and difficult to understand fully.

Fees and Surrender Charges

Indexed annuities often come with higher fees and surrender charges compared to other investment products.

Index Annuity

Who Should Consider Indexed Annuities?

Moderate Investors

Indexed annuities offer a balance between risk and reward, suitable for those seeking moderate growth with downside protection.


These annuities are appealing for those approaching retirement due to their principal protection and potential for growth.

Long-Term Savers

Investors with a long-term horizon benefit from tax-deferred growth and compounding effects.

Inflation Protection Seekers

Higher returns compared to fixed annuities can help combat inflation and preserve purchasing power.

Choosing the Right Indexed Annuity

When selecting an indexed annuity, consider the following:

  • Index Selection: Ensure the index used aligns with your market expectations.
  • Contract Terms: Understand the length of the contract and associated surrender charges.
  • Caps and Participation Rates: Compare these among different products to maximize your growth potential.
What Is An Indexed Annuity?

What We Recommend

Indexed annuities can be a valuable component of a diversified retirement strategy. They offer a unique blend of growth potential and principal protection, making them suitable for conservative to moderate investors. However, it’s essential to fully understand the terms, fees, and potential limitations before investing.

For more personalized advice or a quote, contact us today. Our experts are here to help you make informed decisions about your retirement investments.

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Questions From Our Readers

Do you pay taxes on index annuity?

According to current federal income tax law, the interest you earn on your indexed annuity is not subject to taxes immediately. You will only need to pay ordinary income taxes on any taxable amount once you start receiving payments from the contract.

Can you withdraw from an indexed annuity?

You can withdraw funds from an annuity before it’s turned into periodic payments, but you may have to pay a surrender charge if you withdraw before the agreed term. However, you usually won’t be charged a penalty for withdrawing after the term ends.

How do index annuities make money?

Indexed annuities allow your money to earn interest based on positive changes to an external index like the S&P 500 over a predetermined time frame. If the index increases, you’ll receive a percentage of the gains. If the index decreases, it won’t affect your contract value, including any interest you previously earned.

Can you terminate your indexed annuity prematurely?

Yes, you can terminate an indexed annuity prematurely, but this usually involves surrender charges. These charges can be significant, especially in the early years of the annuity contract. The surrender period and the amount of the charges vary depending on the terms of your specific annuity contract.

Are Indexed Annuities Insured?

Indexed annuities are not insured by the FDIC or any federal agency. However, they are backed by the financial strength and claims-paying ability of the issuing insurance company. State guaranty associations may offer limited protection if the insurer fails.

For Most Indexed Annuities, What Is the Specified Floor?

The specified floor for most indexed annuities is typically 0%. This means that even if the linked market index performs negatively, the worst-case scenario is that no interest is credited, but your principal remains protected.

What Is the Average Rate of Return on Indexed Annuities?

The average rate of return on indexed annuities generally ranges between 3% to 7% per year, depending on the specific product features, market performance, and caps applied by the issuing company.

What Is Declared Rate Allocation?

Declared rate allocation in indexed annuities refers to a fixed interest rate declared by the insurance company, credited to the annuity regardless of index performance. This rate is usually set annually and provides a guaranteed return within the annuity contract.

How Do I Buy an Indexed Annuity?

To buy an indexed annuity, contact an insurance company or a financial advisor who offers these products. Research different annuities, compare features and fees, and select the one that aligns with your financial goals. Complete the application process and fund the annuity.

What Is the Death Benefit of an Indexed Annuity?

The death benefit of an indexed annuity is the amount paid to your beneficiaries upon your death. It typically equals the contract value or the initial premium minus any withdrawals, ensuring your heirs receive some benefit from your investment.

What Is the Daily Interest Account in an Indexed Annuity?

The daily interest account in an indexed annuity is an option where interest is credited to the annuity daily rather than periodically. This method can provide more consistent and predictable growth as it smooths out fluctuations in index performance over time.

How Does an Indexed Annuity Differ from a Fixed Annuity?

Indexed annuities differ from fixed annuities in that their returns are tied to a market index, offering higher potential returns with some risk, while fixed annuities provide a guaranteed interest rate, ensuring predictable and stable growth.

Shawn Plummer, CRPC

Chartered Retirement Planning Counselor

Shawn Plummer is a Chartered Retirement Planning Counselor, insurance agent, and annuity broker with over 14 years of first-hand experience with annuities and insurance. Since beginning his journey in 2009, he has been pivotal in selling and educating about annuities and insurance products. Still, he has also played an instrumental role in training financial advisors for a prestigious Fortune Global 500 insurance company, Allianz. His insights and expertise have made him a sought-after voice in the industry, leading to features in renowned publications such as Time Magazine, Bloomberg, Entrepreneur, Yahoo! Finance, MSN, SmartAsset, The Simple Dollar, U.S. News and World Report, Women’s Health Magazine, and many more. Shawn’s driving ambition? To simplify retirement planning, he ensures his clients understand their choices and secure the best insurance coverage at unbeatable rates.

The Annuity Expert is an independent online insurance agency servicing consumers across the United States. The goal is to help you take the guesswork out of retirement planning and find the best insurance coverage at the cheapest rates

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