Annuities that have grown in popularity
Although I have previously warned against many annuities, with good reason, this column will focus on one type of annuity that might serve a very good short-term purpose in your financial plan.
That product is a fixedrate multiyear guaranteed annuity or MYGA. With a term ranging from two to 10 years, this insurance contract promises a fixed rate of interest for that specific time period. Currently many offer a temptingly high contractual rate of more than 5.5%.
Now that I have your attention, let me tell you what is involved — and what is not part of this interesting deal.
This is not an immediate annuity, which is a promise to pay you a fixed sum of money at fixed intervals as long as you live.
This is not an annuity linked to promises of upside stock returns and no downside — AKA fixed index annuities. Avoid those like the plague; they’ll be the subject of a different warning column.
Rather, what we are talking about today is the life insurance industry’s version of a CD. A MYGA promises to pay you a contractually guaranteed rate of interest for a set number of years. However, the guarantee comes from a highly-rated insurance company, not the FDIC.
Because this is an insurance contract, there are some interesting tax benefits, as well as some potential drawbacks.
Here are some key points to keep in mind.
You can purchase them inside your IRA or Roth IRA, or in your own or joint name depending on the account type.
MYGA interest compounds tax-deferred, with no taxes paid until you cash in the annuity at the end of the contract or if you take interest out during the contractual time period. With any money you take out, the interest will taxed as ordinary income.
If you purchase the MYGA inside your IRA, there are no tax considerations, since eventually all IRA withdrawals are taxed as ordinary income.
At the end of the MYGA guaranteed period, you can roll it over (in insurance contracts this is called a 1035 exchange into a new MYGA) if you like the rates at that point, with no taxes due. If it’s held in IRA, it would be an IRA to IRA transfer and still a non-taxable event.
Or at the end, you could even roll the whole amount tax-deferred into an immediate annuity, which will start paying you a fixed check for life.
Some MYGAs will allow you to withdraw the interest earned (taxed as ordinary income) along the way. Some offer the opportunity to withdraw perhaps 10% of your money penalty free and annually during the contract period. But, in general, you should think of this money as locked up for the term you choose. That’s why you must choose carefully.
So how do you choose? And how do you know which of these contract details buried in the fine print must be considered?
The critical element is not just the promised rate, or the rating of the insurance company — but other promises inside the contract around how the interest is paid and how it can be withdrawn.
The insurance industry just announced record sales of these MYGA annuities in 2022 as people searched for higher rates than bank CDs. In the fourth quarter of 2022, sales were up 241% from a year earlier.
Despite that volume, you won’t find a lot of “chicken dinner” seminars touting these products. That’s because the built-in commissions are so low compared to the annuity products that offer some kind of link to stock performance. And because the insurance companies change their rates so frequently, depending not only on Fed actions but also on the insurer’s own capacity.
Annuity expert Stan Haithcock maintains a live database of these fixed-rate guaranteed annuities on his website (StantheAnnuityMan.com). Since insurance contracts are state-regulated, at Haithcock’s website you’re asked to input your state of residence and the term — the number of years — you are locking in. Instantly you’ll see offerings — mostly ranging between 5.3% to 5.6% as this column is written. Personalized help is available.
Like when shopping for bank CDs, you need to do your homework. Yield isn’t the only consideration. But for a portion of your “chicken money,” this product could give you a nice return. And that’s The Savage Truth.