The equity-indexed annuity (EIA) has been available since the mid-1990s and has become a popular alternative to fixed-rate annuities and certificates of deposit. These products offer a guaranteed minimum return plus the opportunity to earn a portion of certain market indexes, combining features of both fixed and variable annuities. Since their introduction, many EIAs have at times outperformed bond indexes and the S&P 500 overall.
EIAs credit a percentage of an index's gain (excluding dividends), and the credited percentage, caps, and crediting method vary by contract. It is important to read the policy details carefully and to ask your agent or broker before deciding to invest.
What is the term on the annuity?
With an equity-indexed annuity, your money is typically tied up for a required term, often five to ten years. As with other market-linked investments, the shorter the term, the greater the chance the market won't perform well over your holding period.
What will you earn when the market goes up?
EIAs commonly credit anywhere from about 50% to 100% of the index price gain for the measurement period, excluding dividends. Because dividends are not included, an EIA return is usually lower than a directly held index total return. The credited percentage can vary by year, so confirm the contract specifics with your agent.
At the end of the term, how does the company calculate your earnings?
Methods vary by product. Some policies use the market price on the maturity date; others measure price on each anniversary and use the highest; some average gains over the term; others credit a portion of each year's gain. Understanding which method your contract uses is essential to evaluating potential outcomes.
Are there any earnings caps?
Many equity-indexed annuities impose an annual cap on credited earnings, and some contracts allow the insurer to change the cap annually. Ask your agent for details and examples showing how caps could affect returns in different market scenarios.
What happens if the market trends down?
If the index drops in a measurement period, the credited gain for that period is typically zero rather than negative, so your principal is protected by the contract's guarantee (subject to the insurer's claims-paying ability). How a loss year affects later credited gains depends on the product's crediting method.
What are the repercussions of cashing in the annuity early?
Early surrender usually triggers surrender charges and may reduce or eliminate credited earnings; some contracts return only the guaranteed minimum if you terminate early, while others may credit a portion of accumulated earnings minus charges. Review surrender schedules and penalty examples before purchasing.
What if the market crashes?
EIAs typically include a minimum guaranteed return if you keep the contract to maturity, but the guarantee's computation can vary. For example, a contract might guarantee a percentage of a portion of your premium rather than a straight percentage of the full premium, so confirm how the minimum is calculated.
When comparing alternatives, consider the trade-offs between downside protection and upside participation and compare product types when appropriate; for additional context on related products, see Variable Annuities and learn more about indexed options at Equity-Indexed Annuities: A Growing Alternative.
Liquidated earnings are subject to ordinary income tax, may be subject to surrender charges and, if taken prior to age 59 1/2, may be subject to a 10% federal income tax penalty. Guarantees and payment of lifetime income are contingent on the claims-paying ability of the issuing insurance company.
Frequently Asked Questions
How is the index gain measured for an equity-indexed annuity?
Measurement depends on the contract: common methods include point-to-point, anniversary-to-anniversary, averaging, or an annual reset; check your policy for the specific method used.
Do EIAs pay dividends from the underlying index?
No, most EIAs credit only price changes in the index and do not include dividends, which can reduce potential returns compared with direct index investing.
Are the guarantees in an EIA federally insured?
No; guarantees are contractual and depend on the issuing insurer's financial strength, not on federal deposit insurance.
Will I face tax consequences when I withdraw from an EIA?
Withdrawals are generally taxed as ordinary income on earnings, and early withdrawals may incur additional penalties if taken before age 59 1/2.