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The price of a “free lunch” is often ultimately too high.


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With a “bonus annuity,” you get a lump sum or additional interest credited to your contract upfront. But is the price you’ll pay eventually for your “free lunch” worth it? Not usually. But every bonus annuity is different, and occasionally one may work well for you.

Bonuses can be offered with fixed indexed annuities or fixed-rate annuities. We’ll start with the latter, which comes in two types.

Traditional fixed annuities pay a changing interest rate. After year one, the interest rate is declared by the insurance company annually, with an underlying minimum guarantee. They often include a first-year interest rate bonus. Interest is tax-deferred until withdrawn.

For instance, one traditional fixed annuity pays 6.30% in year one as of June 2023. But it only guarantees a 1.74% average annual compounded yield over the seven-year term. When you buy a traditional fixed annuity, you’re betting that interest rates will remain high or even increase for the remainder of its term and that the issuing insurance company will be fair with you in future contract years.

In contrast, multi-year guarantee annuities (MYGAs or CD-type annuities), provide a set, guaranteed interest rate for a stated period, usually two to 10 years. Typically, the rate is set—for instance, 5.55% annually for five years. However, a few MYGAs pay a higher “bonus” rate for the first year.

If for some reason you need a higher payout in year one from either type of fixed-rate annuity, a bonus product may make sense. Most people today, however, are better off with a plain multi-year guarantee annuity, which will typically pay more interest when held for the full term.

Bonus fixed indexed annuities—“free money” with strings attached

Fixed indexed annuities are more complex. They credit interest based on the growth of a market index, such as the S&P 500. In up years, you’ll profit, but typically will not earn the entire market index’s advance. In return for giving up some upside growth, in down years you’re protected and the value of your annuity won’t decrease. You’ll just earn no interest that year. This have-your-cake-and-eat-it-too product has boomed in recent years.

Some fixed indexed annuities offer what appears to be “free money” at the start in the form of a bonus—but there are strings attached. The bonus is a lump sum that the insurance company credits to your account based upon a percentage of the premium deposit you made when purchasing the annuity or when you add additional funds.

For example, if you initially place $100,000 into an annuity that offers a 5% upfront premium bonus, the insurance company would immediately add an extra $5,000 to your annuity, making the value of your account $105,000 on the issue date of your policy.

With such a deal, how can you lose?

Look again. When an annuity offers a large bonus, it must be adjusted in other ways for it to remain profitable for the insurance company—which isn’t a charity! In future years, a bonus annuity may not credit interest as generously as a similar non-bonus index annuity. For instance, there may be a lower annual cap or participation rate.

The bigger the bonus, the longer your funds will likely be tied up in the annuity via an extended surrender period. During the surrender period, you’ll be assessed a penalty if you withdraw amounts beyond those allowed by the contract. And most bonus annuities have a significantly higher surrender charge penalty for early withdrawal.

Additionally, a vesting schedule may require that you keep your money in the annuity for a certain number of years to fully benefit from the bonus. In such cases, if you take your money out during the surrender period, you may forfeit all or a portion of the previously credited bonus.

When do Bonus Annuities Make Sense?

If the bonus annuity provides the best mix of benefits, when compared to non-bonus products, to meet your needs and objectives, you may have a winner.

If you are buying an index annuity primarily for its attached income rider, a large bonus could help you achieve the highest amount of future guaranteed lifetime income. But be aware that three components will determine income rider payouts: the upfront bonus, the income account value “rollup rate,” and the payout percentage table. All three components are crucial.

Don’t surrender an annuity policy that is still subject to surrender penalties in exchange for a new annuity policy just to get a bonus. It’s rarely worth paying the penalty.

Don’t buy an annuity based only on the size of the bonus. It’s one consideration, a potential tie-breaker, but should not be the determinant.

Buyer beware

Bonus annuities are often oversold and the bonus overemphasized. Bonus annuities are not inherently bad, but you and your annuity agent should carefully consider which annuity will best meet your unique needs. With fixed-rate annuities, making a comparison between bonus and non-bonus annuities is straightforward. With fixed index annuities, it can be quite complex.
Sometimes the most suitable product is a bonus annuity, but more often it isn’t. The greatest “bonus” is making the smartest decision possible!

Ken Nuss is the founder and CEO of AnnuityAdvantage, a leading online provider of fixed-rate, fixed-indexed, and lifetime income annuities. Ken is a nationally recognized annuity expert and widely published author. A free rate comparison service with interest rates from dozens of insurers is available at or by calling (800) 239-0356.

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