Fixed annuities: how they work, what they cost, who they suit

A fixed annuity is a contract in which an insurer credits your money with a declared interest rate, grows it tax-deferred, and later pays it out as a lump sum, withdrawals or lifetime income. You do not bear market risk; the insurer does, and it invests your deposit mostly in bonds and similar assets in its general account. The trade-off is that the rate is set by the company, your access is limited by a surrender schedule, and the guarantee is only as strong as the insurer.

How a fixed annuity earns interest

When you buy a fixed annuity, the contract states an initial rate and a guaranteed minimum rate. The rate the insurer actually credits is the crediting rate. Two designs are common:

• Rate set for a term. The initial rate holds for a stated period, such as a year, then the insurer resets it, never below the contract minimum. These are sometimes called traditional or "declared rate" fixed annuities.
• Rate locked for the whole surrender period. This is the MYGA, covered in its own guide.

Renewal rates are discretionary above the minimum. Insurers set them based on what their bond portfolio earns, which is why annuity rates tend to follow interest rates; how annuity rates are set and why they move explains the link. A high first-year rate followed by a low renewal rate is the pattern to watch for. Ask for both, plus the guaranteed minimum, in writing.

What it costs

A fixed annuity usually has no stated annual fee. Its cost is built into the spread between what the insurer earns on its investments and the rate it credits. The visible costs are:

• Surrender charges. If you withdraw more than the free amount, often around 10% of the value a year, during the surrender period, you pay a charge that declines over time. Schedules vary by product; see annuity surrender charges and free withdrawals.
• Market value adjustment. Some contracts include a market value adjustment, which can raise or lower the surrender amount depending on how interest rates have moved since you bought.
• Taxes. Withdrawals of earnings are taxed as ordinary income, and withdrawals before age 59 1/2 can add a 10% additional tax unless an exception applies (IRS Topic 410). Earnings are generally treated as coming out first from a nonqualified annuity. Full rules are in how annuities are taxed.
• Early-withdrawal waivers. Many contracts waive the charge for nursing-home confinement or terminal illness. Terms vary, so read the rider.

How a fixed annuity compares with alternatives

The tax deferral is the main edge over a CD held in a taxable account, but if you would simply hold the contract in an IRA, you already have deferral, and the annuity adds a surrender schedule. That is the question in Should you put an annuity in an IRA?. Where the extra yield comes from deserves a question: it often compensates you for giving up access and for taking on insurer credit risk instead of bank or government risk.

How safe is the money?

The guarantee comes from the insurer's claims-paying ability. If the company fails, the state guaranty association covers annuity benefits up to a limit. According to NOLHGA (as of June 1, 2025), most states cover $250,000 of annuity present value per person per insurer, with some states higher and a few using percentage formulas. FDIC insurance does not apply. Look up the limits with the state guaranty association coverage lookup and consider the insurer's financial strength ratings before depositing more than the cover. Spreading a large sum across insurers is one way to stay within limits.

A hypothetical example

Say a 60-year-old with $100,000 of nonretirement savings that they will not need for five years is comparing a five-year fixed annuity with a five-year CD. Both might offer a similar rate at the time; that is a cap on how much of the decision is about yield. What differs is that the annuity defers tax on interest until withdrawal, charges a surrender fee if cash is needed in year two, and is backed by an insurer rather than the FDIC. If the saver is in a higher bracket now than they expect to be later, deferral helps; if not, the benefit shrinks. This is an illustration, not a market quote.

Who fixed annuities suit, and who they don't

Often suit:

• Conservative savers who have money they will not touch for the surrender period and want a known rate.
• People who want tax deferral on money outside retirement accounts.
• Those who plan to turn the balance into lifetime income later.

Often do not suit:

• Anyone who may need the cash early; fees and taxes can cost more than the extra yield.
• People who want growth that outpaces inflation over decades. A fixed rate can fall behind rising prices.
• Savers who would hold the contract inside an IRA solely for deferral.
• Buyers who cannot tolerate renewal-rate risk without a locked rate.

Before you sign

1. Get the initial rate, how long it lasts, the renewal method and the guaranteed minimum.
2. Get the full surrender schedule, free-withdrawal amount and any MVA.
3. Check the insurer's ratings and your state's guaranty limit.
4. Confirm the free-look period, commonly at least 10 days and longer in some states, and what is refunded.
5. If replacing an existing contract, compare the new surrender schedule with what you give up; see 1035 exchanges: swapping policies without tax for the tax-free exchange rules and annuity sales abuses targeting seniors for warning signs.

Key takeaways

• A fixed annuity credits a declared rate, so the insurer, not you, carries market risk.
• Costs are in the spread and the surrender schedule, so compare net returns, surrender terms and renewal-rate rules.
• Guarantees rest on the insurer, backed by state guaranty limits, not FDIC insurance.
• Tax deferral is useful in a taxable account and adds little inside an IRA.
• Best for money you will not need during the surrender period.