This is a continutation of commenting on the article from 4/25/05. All credits to the article are given there. The actual article is in black and my comments are in red.
Index Averaging
Some EIAs average an index's value either daily or monthly rather than use the actual value of the index on a specified date. Averaging may reduce the amount of index-linked interest you earn.
While averaging CAN reduce the amount you earn, averaging can also smooth out the ride. What averaging does is instead of measuring a starting and a finishing point, the insurance company takes the beginning value of the index on a specified date. Then depending on whether it is daily or monthly averaging, they average the value of the market based on the specific period. Then, they subtract the average value from the starting value.
The point is, yes, you are taking an average so if the market went straight up, the average would be lower than the final point. That is, if you take the average of 1, 2, 3, 4, 5, 6, 7, 8, 9, and 10 with 10 being the finishing point, the average is obviously lower than 10. However, the market went straigh up and stayed high, only to go below it's starting point after 1 year, point-to-point would give you no return where averaging would have a better chance in this situation.
Each has its benefits and like anything else, it may pay to diversify strategies.
Interest Calculation.
The way that an insurance company calculates interest earned during the term of an EIA can make a big difference in the amount of money you will earn. Some EIAs pay simple interest during the term of the annuity. Because there is no compounding of interest, your return will be lower.
Although this is true, check with your annuity. Most EIA's pay compounding interest. Particulary EIA's that have annual reset, which in my opinion is a MUST. Again, that is only my opinion. Your situation may vary and you should seek the help of a professional to determine what is right for you.
Exclusion of Dividends.
Most EIAs only count equity index gains from market price changes, excluding any gains from dividends. Since you're not earning dividends, you won't earn as much as if you invested directly in the market.
But you also can't lose money due to market risk like you can in the market. However, the fact that it doesn't pay dividends warrants attention. Dividends account for a good portion of the gains in the market so you should be aware of this.
Can I get my money when I need it?
EIAs are long-term investments. Getting out early may mean taking a loss. Many EIAs have surrender charges. The surrender charge can be a percentage of the amount withdrawn or a reduction in the interest rate credited to the EIA.Also, any withdrawals from tax-deferred annuities before you reach the age of 59½ are generally subject to a 10% tax penalty in addition to any gain being taxed as ordinary income.
Very good points. Always remember that annuities require time to be worth it. They can offer you more than a traditional CD can because you are offering them time on your money and that is the tradeoff.
Ignorance is not Bliss.
For more information and resources on annuities, go to:
http://www.AnnuityHome.com
http://www.MyAnnuitySite.com/annuities101/
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