Do Annuity Rates Rise with Interest Rates?

Yes, annuity interest crediting rates typically rise with the interest rates, at least for immediate annuities and fixed annuities. When the Federal Reserve raises interest rates, insurance companies typically earn more in bond yields. That allows them to offer higher rates to their customers.

Part of the difficulty around big fiscal decisions is that the financial landscape is always changing. It’s hard to understand what that means for your finances and especially for long-term retirement planning.

At the moment, interest rates are rising. That means debt is getting more expensive — it will cost you more to take out a mortgage or get a personal loan. It also means that you can earn more money in lower-risk financial and insurance products, like annuities.

Keep reading to find out how annuity interest crediting rates are tied to the interest rates the federal reserve and banks offer, and why. You’ll also learn how various types of annuities may be affected differently and whether you should buy an annuity in the current rate environment.

Are Federal Reserve Rates and Annuity Interest Rates Connected?

You might have heard recently that the Federal Reserve—”the Fed,” which is the central bank of the United States—is raising benchmark interest rates. They’re doing it as a way to reduce inflation, which happens when prices for goods and services rise.

Is that benchmark interest rate connected to annuity interest crediting rates?

Yes, that rate can affect the annuity interest rates offered by annuity companies, but it’s not always a direct effect.

Annuity Companies Set Rates Based on Long-Term Bonds

When you buy an annuity, the life insurance company that sold it takes your funds and invests them — typically in very safe investments like high-quality government and corporate bonds. Of the earnings they make, they pay your annuity interest and then keep leftover earnings to cover their expenses.

The rate of return on bonds, called bond yields, affects the interest rates insurance companies can offer you. When bond rates increase, annuity companies make more money on their investments, which allows them to pass on better interest crediting rates for annuities.

The Federal Reserve Benchmark Rate Doesn’t Directly Change Long-Term Bond Rates

Annuity companies mainly invest in bonds that credit interest over a long period of time, so they are affected most by long-term bond rates.

The Fed rate affects short-term interest rates and variable rates. It doesn’t directly affect the rates for bonds that annuity companies are investing most in.

Note: As of October of 2023, interest rates are at a high point and may have peaked. These high rate could impact whether now is the right time for you to buy an annuity.

Interest Rates Still Have an Effect on Annuity Rates

While interest rates set by the Federal Reserve don’t directly affect annuity interest crediting rates, they still can have a general effect. When interest rates rise, bond yields usually do too, which means insurance companies can offer higher interest crediting rates on their annuities.

That means that your annuity earns more money during periods of higher interest rates. The more interest you earn, the higher your account value is when you’re ready to retire. The higher your annuity’s account value, the more income you can count on in retirement. During periods of low interest rates, annuity interest rates typically stay low. That means you earn less and receive less income when you annuitize (the term annuitize just means to change your annuity from a lump sum into periodic income payments in retirement).

In other words, annuity rates are not the same as the Fed’s benchmark rate, but the one tends to follow the other.

How Rising Rates May Affect Annuities

While annuity rates, in general, tend to rise when the Fed rate increases, the exact effect depends a lot on what type of annuity you have. Here are the main types of annuities and how their interest crediting rates are set.

Immediate Annuities

Immediate annuities are a type of annuity product that begins to pay you guaranteed income soon after you buy them. You pay your premium upfront in a single lump sum. Then, typically within a year, your annuity payouts begin.

Those annuity payments are influenced largely by the amount you paid as your premium, by the payout option you choose, and by your life expectancy (if you choose the lifetime payout option). Interest rates can play a role in your monthly payments, too. Reports show income payments from immediate annuities have risen by 42% since interest rates begin increasing at the start of 2022.

Variable Annuities

Variable annuity interest crediting rates are influenced by Fed interest rates much less than other types of annuities. Instead, interest crediting rates for variable annuities depend much more on stock market performance.

When you buy a variable annuity contract, you choose sub-accounts into which your premiums go, which directs the insurance company on how to invest those funds. Each sub-account has a different investment objective and risk profile.

For example, you might choose a sub-account that is made up entirely of stocks. Or, you might choose sub-accounts that are 100% bonds. Or you might choose a mix of both.

If the assets in your investment portfolio do well your effective crediting rate will be higher. If your investments perform poorly, your annuity may not grow and you could even lose money.

So whether or not interest rates affect your variable annuity depends on what investments make up your sub-accounts. If the sub-accounts you choose include mostly bonds, then yes, the variable annuity interest crediting rate may rise or fall with changes in interest rates. But if your sub-accounts are made up of other securities — like stocks —interest rates may not affect the variable annuity at all. Instead, they would vary with the performance of those stocks on the stock market.

Indexed Annuities

Like variable annuities, equity-indexed annuities (also called fixed-indexed annuities) typically aren‘t affected by interest rates.

When you buy a fixed-indexed annuity, you select an underlying market index that your funds follow — for example, the S&P 500 index. You can expect higher crediting rates on these annuities during periods when the stocks that make up that index perform well, and they will decrease when those stocks do poorly.

Unless the index that you select is based on the bond market, the rates of a fixed-indexed annuity will usually not be directly affected by increases or decreases in interest rates.

Fixed Annuities

Fixed annuities are the safest types of annuities. They offer a guaranteed minimum interest rate over the term of the annuity. That means that they guarantee your annuity crediting rate will never fall below that specified rate. Many times the actual crediting rate given is much higher than the minimum rate specified in the contract.

Fixed annuities are the type of annuity most affected by changes in interest rates. As described above, with higher interest rates, bond yields typically also rise. Higher bond yields mean that insurance companies can pass on higher earnings to their consumers in the form of better fixed annuity rates.

As CNBC notes, five-year multi-year guaranteed annuity (MYGAs) rates have increased by almost 50% since the end of 2021, following rising interest rates.

Is Now the Right Time to Buy an Annuity?

If annuities are providing better interest rates than ever, is now the time to buy?

It absolutely could be.

Remember that it is notoriously difficult to “time” the market. Annuities are long-term insurance products. They have many important advantages, like tax benefits, guaranteed retirement income, and steady growth. They are perfect for individuals who want a safe way to grow their nest egg, and who could benefit from guaranteed lifetime income.

Whether they’re right for you depends on your financial goals and circumstances. For example, if you’re looking for short-term growth, you might be better off with another type of investment.

Right now is a great time to buy annuities. The rates for fixed annuities are quite high, and Canvas Annuity has some of the best rates in the industry. As always, if you’re not sure, consult a financial advisor or other personal finance professional.

Getting Started with the Right Annuity

Interest rates going up is a good thing if you have an annuity.

Higher interest rates generally mean higher bond yields for insurance companies. That means that the annuity crediting rates they can offer to customers are going up as well. When annuity rates go up, your funds accumulate faster, giving you more to play with when you retire.

Interest rates have an especially big effect on immediate annuities and fixed annuities. They are less important for variable and fixed-indexed annuities, which usually have interest crediting rates more closely tied to the stock market.

If you’re thinking about buying an annuity, consider the fixed annuity products offered at Canvas Annuity. Our products can help you grow your retirement savings over time, and then achieve guaranteed lifetime income in retirement.

Apply today.