Annuities have previously gotten a bad rap as coming with too many fees and being overly complicated. But this year, they’ve hit their stride. Annuity sales surged 22% to a record $77.5 billion in the second quarter of 2022, according to preliminary data by Limra. It’s the most money investors have poured into the assets since Limra has been tracking sales and beat out the previous record set during the Great Recession in 2008 by $9 billion. Much of this boom in sales has been driven by anxiety over market performance, rising interest rates and the fear of an upcoming recession. In the first half of the year, both stocks and bonds posted their worst performances in decades, slamming investors that had portfolios balanced with both assets. “People are re-evaluating their portfolios, looking at their financial plans and asking themselves ‘am I on track or off track?'” said Corey Walther, president of Allianz Life Financial Services. Some of them have bought into annuities to protect their money, while others are taking cash they had on the sidelines and putting it to use in a way where it will grow but is still protected. “They can go into a fixed-rate deferred [annuity,] get a guaranteed rate of return and not worry about their principal fluctuating as it would in a bond or a bond fund,” said Todd Giesing, head of annuity products at Limra. Fixed annuities So what is an annuity, exactly? Put most simply, they are tax-deferred retirement accounts created by an insurance company – like a 401(k) or some individual retirement accounts, you don’t have to pay taxes on the assets until you pull them out, and when you do, they’re treated as income. They generally offer principal protection, stable growth potential and solid income to investors. Annuities generally fall into one of two categories, fixed or variable. Fixed income annuities are the most popular right now – sales jumped 47% on the year in the first quarter of 2022, and 45% annually in the second – and are also some of the simplest. A fixed annuity guarantees the buyer a fixed rate of return for a certain timeframe – like buying a CD, but the yields are generally higher. “They’re the simplest form to understand because if you take a 5-year annuity that’s paying 4%, you know exactly what you’re going to get during those five years,” said Brian Stivers, founder and CEO of Stivers Financial Services in Knoxville, Tennessee. To compare, the highest rates for a 5-year CD are currently just over 2%, according to Bankrate. The income can be taken right away or deferred, and in many cases the investment can pass to a beneficiary if the investor dies before the end of the annuity. Usually, the longer an annuity is deferred, the higher the payout will be. For example, the Midland National Life Oak Advantage 3-year annuity has a fixed rate of 4.05%. The same product with a 5-year contract pays a rate of 4.60%. Investors can also purchase fixed-indexed annuities, which have income linked to the stock market. These will generally have higher returns than a fixed product, but also come with an income cap and will charge a fee if you need to withdraw during the surrender period, usually five to seven years. Still, these products protect against losses – the Lincoln National Life FlexAdvantage 5 annuity protects 100% of principal investment but has capped S & P 500 returns at 9.5%. Variable annuities Variable annuities, on the other hand, don’t offer the same level of principal protection that fixed ones do. Instead of having a guaranteed and specific return, they can yield more because they’re based off an underlying basket of sub accounts picked by the annuity owner. These sub accounts are basically the same as mutual funds, but don’t have the same transparency because they can’t be easily searched or tracked by retail investors. Fees can be much higher than fixed annuities because there’s more management involved. And, if the sub accounts fall in value, so will the value of the annuity, meaning there’s a lot more risk. “It’s just like being in mutual funds,” said Stivers. “If you cash out in a down market, you’re going to lose.” The benefit of variable annuities is that they can include a variety of riders that have different stipulations, such as lifetime income or another feature. However, these will add to the overall cost. When to buy an annuity Of course, there are a few things that investors should watch for before they buy an annuity. First is that they understand the product they’re purchasing as annuities are still full of complexity. They can also come with high fees or commissions that eat into returns. Working with a financial planner, and one that’s a fiduciary – or who has a duty to act in the investor’s best interest over their own – can help ensure you find the right product fit. They’re also generally for older investors, as many come with a penalty for withdrawing money before the end of the surrender period or before the buyer has turned 59 ½. This is behind at least some of the surge in sales – as the baby boomers age, there are more and more people in or near retirement each year and looking for the kind of protection plus income that annuities offer. “If you’re in your twenties and your thirties, even in your mid-forties, you’re willing to risk a little bit more because if you retire at 65, you’re still 15 to 20 years or more away from that,” said Mark Williams, CEO of Brokers International. Allocation is also important. In a balanced portfolio, investors generally want to have some money that’s safe, in cash, and some that’s spread between bonds and equities. “Annuities, generally speaking, are allocated towards your safe money,” Williams said. That means that no more than half of your portfolio should be in annuities, and the amount should probably be less than that.