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Annuity or CD?

Q: CD rates are in the tank, and we have an aversion to risk, no pension to speak of, but a solid amount of savings. Should a retired couple consider an annuity as an income producer?

A: If you can find an annuity that provides you with an adequate amount of income, it would certainly be worth considering. The catch is that like everything else, annuities have seen their income yields shrink a great deal in recent years.


Annuities are investment products created by insurance companies. They have certain tax deferral features, but that would not be particularly relevant if you were investing for immediate income. There are both fixed and variable annuities, with the words "fixed" and "variable" pertaining to the type of return you would receive. Obviously, a fixed annuity would have the income features most comparable to a certificate of deposit (CD), but it is not apparent that fixed annuities have an advantage over CDs.

According to the FDIC, average CD rates these days range from 0.06 percent for one-month CDs, to 0.77 percent for five-year CDs. At the five-year end of the range, you can do about a percentage point better than the average if you shop around for the best CD rates.

The question, then, is whether you could do better with an annuity. You shouldn't rule either option out until you've seen what income yields are available, but it is likely that you'll find annuity rates are not much higher than the best CD rates. In either case though, it is wise to do some comparison shopping to find the best rate before you commit.

Besides the importance of shopping around, another similarity between investing in an annuity and in a CD is that each one confronts you with the dilemma of whether you should lock in a given rate of income. Interest rates are unusually low right now. While making a longer-term commitment -- whether in a CD or an annuity -- will earn you a higher rate of income, it also means locking yourself into that rate of income for the duration of the instrument. If interest rates return to more normal levels before the maturity date of the CD or annuity, you could find yourself stuck with a sub-standard rate income for longer than you'd like.

Finally, when comparing the best CD rates and annuity rates, keep in mind one key difference between the two types of instruments: Deposits in CDs are guaranteed by the FDIC (up to the $250,000 maximum per depositor at any insured bank), while annuities have no government insurance. An annuity is backed only by the insurance company that issues it, which is a significant risk factor to consider when making your decision.

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