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CDs vs. annuities — which are right for you?

POSTED: December 26, 2008 5:00 a.m.

Head to head, how does a non–qualified bank certificate of deposit and single premium deferred fixed annuity compare, what are the strengths of each product. Both CDs and annuities are considered low-risk savings vehicles for investments.

But in today’s economy even with the low risk investments options you have to maximize every dollar to your advantage.

Objectives
Safety of principal is a huge issue as we face uncertain financial times ahead of us. CDs are generally issued by banks and, in most cases, are insured by the Federal Deposit Insurance Corporation (FDIC) for up to $100,000 per depositor. Should the bank fail, the FDIC guarantees CDs up to this amount.

Deferred fixed annuities are issued by insurance companies and are not insured by the U.S. government. They are backed by the financial strength of the issuing insurance company, regardless of the amount. Therefore, before purchasing an annuity, you should make sure the issuing insurance company is financially sound. You can determine financial strength by requesting the findings of independent rating companies such as Moody's, A.M. Best, Standard & Poor's and Fitch. These companies evaluate the financial strength of insurance companies and publish ratings that give their assessments of each company.  

However, unlike banks, insurance companies have a backup plan; if the unlikely circumstance occurs that an insurance company did fail in Georgia, we have the Georgia Life and Health Insurance Guaranty Association (GLHIGA). The GLHIGA provides total annuity cash surrender protection per owner per licensed insurer at $100,000. That per person limit is a maximum that applies without regard to the number of annuity contracts. As a result, if an individual owned three $100,000 annuities with the same insolvent licensed insurance company, the Georgia association would pay a maximum total of $100,000 in cash surrender values.

If those annuities where among three different licensed insurance companies in Georgia, then the annuity owner would have $100,000 protection for each of the three companies. The industry of life and annuity insurance companies haven’t normally failed, but the banking industry has been another story with 37 failed banks this year alone. The FDIC reported that the number of firms on its so-called problem bank list grew to 171 during the third quarter — the highest since 1995 when there were 193 banks on the list.

The insurance industry does have its own problems, most notable this year, AIG. Then again, the problem with AIG was not in its core operations, life and annuity insurance divisions, but rather their other lines of business. In fact, the bright spot in AIG’s future is the life and annuity divisions, which actually have been profitable for them.

The second objective is length of time to invest. When deciding between a CD and a deferred fixed annuity, your investment horizon should be a key factor. If the money you are investing is going to be needed in for the next six to 12 months, then the CD may be a better choice.  On the other hand, a deferred fixed annuity has generally been the product of choice for a longer investment period, say of two or more years. Deferred fixed annuities are designed to help accumulate money for retirement or to protect funds already saved once you've reached retirement. They can even be used to provide a legacy for your heirs.

Interest return
CDs offer a guaranteed rate of return for a specified period of time. Interest rates will vary depending on current market conditions and the length of time to maturity. Generally, the shorter the period of time to maturity, the lower the rate. There is no guaranteed minimum for renewal rates.

With a deferred fixed annuity, a guaranteed interest rate is locked in for an initial period. After that, interest rates may be adjusted periodically, generally each year. Deferred fixed annuities also offer a guaranteed minimum interest rate, regardless of market conditions.

Tax savings
The last objective is what affect taxes will have on your investment. Taxes are a concern, and from every indication that will be an issue of growing concern over the next few years, a deferred fixed annuity may be a better option for several reasons.

Earnings on CDs are taxable in the year the interest is earned, even if you don't take the money out. With deferred fixed annuities, earnings accumulate tax-deferred and are not treated as taxable income until they are withdrawn, which gives you a measure of control over when you pay taxes. An annuity also has the most powerful of tools that an investor can have, simple compounding interest which a CD lacks by the effect of having to pay those taxes.

Have questions about annuities or investing? Give me a call at 754-1226. Mark Czachowski is a financial representative with the Czachowski Insurance Agency in Springfield.

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