In today’s high-flying stock market, you may be contemplating shifting some of your investments to a safer place. Safeguarding your principal, even if it means earning a modest 4% or 5% interest, can bring a sense of security and peace of mind – a valuable proposition indeed!
Consider options like money market funds, certificates of deposit, or annuities. You could even explore short-term U.S. Treasury securities. While these avenues may offer single-digit returns on your investments, recent observations indicate that certain annuities have fixed rates slightly higher than traditional certificates of deposit.
An annuity is a contract between a buyer and an insurance company that provides a series of periodic payments in exchange for a lump-sum investment. Typically used to establish a stable income source post-retirement, annuities are gaining popularity due to the slightly higher fixed rates they offer compared to CDs.
Insurance companies offer fixed-rate deferred annuities akin to CDs, generating potentially higher returns from a diversified investment portfolio maintained by these companies, including government and corporate bonds, stocks, and real estate.
These products allow buyers to defer taxes on earnings and can be acquired through brokerage firms, banks, and annuity agents. Fixed-rate annuities guarantee steady, predictable income by offering a fixed interest rate. It’s worth noting that fixed-rate deferred annuities were the best-selling annuity category in 2024, totaling $124 billion in the first nine months, a 17% increase from the same period in 2023.
The Federal Reserve’s interest rate hikes since 2022 have boosted the rates of these long-overlooked products, sparking heightened demand for annuities.
Particularly appealing to the baby boomer generation looking for conservative investment options, annuities differ from traditional retirement income products by transforming lump-sum investments into monthly payments for life.
With features like tax-deferred growth and the ability to transfer funds into different fixed-rate deferred annuities, investors can withdraw principal and earnings, only paying taxes on profits or opt for annuities resembling pension plans for lifelong income.
It’s crucial for investors to ensure the financial stability of the insurers backing annuities as they don’t enjoy the same federal backing as most CDs. Ratings agencies like S&P Global, Moody’s, and A.M. Best can provide insights into evaluating these insurance companies.
In the event of an insurer’s bankruptcy, annuities are protected by state-funded guaranty association systems, albeit with coverage varying by state. Keeping your contract amount below the state-guaranteed limit is vital.
Fixed-rate deferred annuities suit those who can leave funds untouched until the contract matures, similar to CDs. Early withdrawals could incur surrender charges, possibly up to 7%.
In this regard, it’s akin to CDs. According to Bankrate.com, bank CDs levy penalties for early withdrawals, charging 90 days’ interest if withdrawn before a year and 180 days if the term is one year or longer. Contracts might adjust the principal to the current market value during withdrawals, resulting in potential losses.
Variable annuities are tied to specific investments like indices or mutual funds. Returns hinge on investment performance, so the predictability of fixed-rate annuities is absent here. For the purposes of this article, we focus on fixed annuities as they often offer higher rates than CDs.
Tax-deferred growth with annuities benefits individuals in higher tax brackets, especially if they anticipate being in a lower tax bracket upon annuity maturity. High-income tax states similarly incentivize investment in U.S. government bonds as interest income is exempt from state and local taxes.
Annuities offer tax-deferred growth, meaning interest, dividends, or capital gains aren’t taxed as long as funds remain within the annuity.
In cases of “qualified” retirement plans funded with pre-tax dollars, withdrawing annuities before age 59.5 may incur a 10% federal early withdrawal penalty on top of ordinary income tax. Additionally, states like California levy a 2.5% early withdrawal penalty. With post-tax dollar-funded annuities, only the interest portion of withdrawals is subject to regular income tax.
Before purchasing annuities, it’s crucial to consider all variables and factors to ensure they align with your financial goals and needs:
For those seeking conservative investments and predictable interest income, fixed-rate annuities offer highly competitive rates compared to money markets, U.S. bonds, and certificates of deposit available today.
The article “Fixed-Rate Annuity or Certificate of Deposit?” was originally published on English Epoch Times website.
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