Floating Rate Fixed Annuities

Annuities that have rates that float or change during their terms are known as floating rate fixed annuities. They usually quote a first year rate, a base rate, and a minimum rate. To understand what each of these terms mean, let’s look at an example.

Suppose an annuity had a first year rate of 7%, a base rate of 5%, and a minimum rate of 3%. You would receive 7% interest during the first year. If the interest rates in the market had not changed during the year, you would receive 5% the next year (the base rate). However, if interest rates in the market rose (i.e. the base rate rose), you would receive more than 5%. If interest rates declined (i.e. the base rate fell), you would receive less. No matter how far interest rates fell, the least amount of interest you would receive in any year would be 3% (the guaranteed rate).

Many people invest in floating rate annuities when they think that interest rates will be higher in the future. Unfortunately, most floating rate annuities rely on the annuity companies’ discretion to determine what rate they will pay each year. Since an annuity company earns more money by paying you less, you can see it has a very real incentive to pay you as little interest as possible. My experience is that many people often end up very disappointed with floating rate fixed annuities. While they often start out with an attractive rate, they frequently end up getting paid an interest rate that is not competitive.