Rising prices can quietly chip away at your savings, especially during retirement. That’s where an inflation adjusted annuity comes in. It keeps your income steady in real terms, even as the cost of living goes up.
Looking for a way to protect your future purchasing power? This guides you through how inflation-adjusted annuities work, their benefits, and how to invest in one.
What Is an Inflation Adjusted Annuity?
An inflation adjusted annuity is a financial product that provides regular income payments. Payments increase over time based on inflation. Unlike a standard annuity, this type of annuity helps protect your income’s buying power as prices rise.
Are annuities inflation adjusted by default?
Not all of them. Most traditional annuities pay a flat amount. Insurance companies design them to keep pace with the cost of living. They often link payments to a benchmark like the Consumer Price Index (CPI).
How Inflation Adjusted Annuities Work
An inflation-adjusted annuity increases your income payments over time to match inflation. These increases depend on the Consumer Price Index (CPI), a common measure of the cost of living. When the CPI rises, your annuity payments go up too.
The inflation adjusted annuity formula typically applies a percentage increase based on the CPI. If inflation rises by 3% annually, your annuity payments increase by the same amount, depending on the contract.
An inflation adjusted fixed annuity has a fixed percentage set in the terms. The initial payment is fixed. As time passes, the payments with increase depending on the contract terms.
Some annuities cap the maximum increase or offer a set adjustment, like 3% annually, regardless of inflation. Others mirror CPI changes more closely but might start with lower initial payouts. The idea is to trade short-term income for long-term protection against rising expenses.
Benefits of an Inflation Adjusted Annuity
An inflation-adjusted annuity offers several long-term advantages, especially for people planning for retirement.
It Keeps Your Income Stable in Real Terms
As everyday costs rise, your inflation adjusted annuity income rises too. This helps ensure your purchasing power stays intact. You won’t have to dip into other savings just to cover higher prices.
It Protects Against the Impact of Long-Term Inflation
Even modest inflation can reduce the value of fixed payments over time. With an inflation adjusted annuity, you can avoid that slow loss in value and maintain a consistent lifestyle. Even with sharp increases in inflation, you get some stability.
It Simplifies Your Retirement Planning
You don’t need to guess how much prices will go up. The built-in increases help align your income with real-world expenses. It can reduce the pressure to constantly adjust your budget. It works well with a comprehensive retirement plan.
It Offers Peace of Mind
Knowing your income will rise with inflation can offer more financial confidence. Especially during long retirements, this type of annuity provides an extra layer of security.
5 Key Factors to Consider Before Investing
While an inflation adjusted annuity offers solid long-term benefits, there are a few trade-offs.
Lower Starting Payments
Insurance companies design these annuities to grow over time. They often begin with smaller payouts compared to standard annuities. You’ll get less upfront in exchange for future increases.
Fees and Charges
Some inflation adjustments come through optional riders, which can add to the cost. Always read the contract details and ask about hidden fees. It may be more feasible for some to seek other inflation adjusted investments that could offer higher returns.
Inflation Trends Can Vary
If inflation stays low for many years, the increases in your annuity payments might not add much value. On the flip side, if inflation spikes, capped adjustments might not keep up. They can't be your only tool for retirement planning.
Complex Terms
The language in annuity contracts can be hard to understand. It’s important to understand how the inflation adjustment works. You should know if it depends on CPI, a fixed rate, or capped annually. A financial advisor can help simplify the process for you.
Long-Term Commitment
Once you purchase an inflation adjusted annuity, it’s generally not easy to reverse. You lack liquidity and can't move funds around easily. Make sure this aligns with your long-term goals and liquidity needs.
Comparing Inflation Adjusted Annuity Rates
When choosing an inflation adjusted annuity, the rate structure determines your long-term income. Your payment growth and your starting income depend on this rate.
An annuity calculator with inflation adjusted payments is helpful to estimate how much income you could receive over time.
How Rates Are Set
Insurance companies set inflation adjusted annuity rates on:
- current interest rates
- projected inflation
- the type of adjustment offered (fixed rate or CPI-based)
Rates can vary between providers, so it's worth comparing several options.
Fixed v. CPI-Linked Adjustments
Some annuities offer a fixed annual increase, while others adjust based on actual inflation each year. An inflation adjusted fixed annuity gives certainty but may not match real-world changes. CPI-linked options track inflation more but might start with lower payouts.
Compare Payouts Over Time
To get a true sense of value, look at projected income over 10, 20, or 30 years, not just the first year. An annuity with a lower starting payment could outperform a fixed one in the long run if inflation is high.
Steps to Invest in an Inflation Adjusted Annuity
If you’re ready to explore an inflation adjusted annuity, here’s how to move forward:
- Research providers. Start by comparing reputable insurance companies that offer inflation-adjusted options. Look for providers with strong financial ratings and clear contract terms.
- Read the fine print. Pay attention to how the inflation adjustments work. whether they're tied to the CPI or set at a fixed rate—and check for caps or fees.
- Talk to a financial advisor. A licensed advisor can walk you through options, compare products. They help you choose a plan with a retirement and financial strategy.
- Review before you make a commitment. Make sure you understand the trade-offs, like lower starting payouts or limited flexibility. Once you invest, the decision is typically permanent.
Plan for Rising Costs with Confidence
An inflation adjusted annuity can provide reliable, long-term income that keeps up with the cost of living. With our team, you can make a well-informed decision that supports your future.
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Stewart Willis is the founder and president of Asset Preservation Wealth & Tax, a financial planning firm in Phoenix, Arizona. Investment advisory services offered through Foundations Investment Advisors, LLC, an SEC registered investment adviser.
Any comments regarding safe and secure investments and guaranteed income streams refer only to fixed insurance products. They do not in any way refer to investment advisory products. Rates and guarantees provided by insurance products and annuities are subject to the financial strength of the issuing insurance company; not guaranteed by any bank or the FDIC.
The commentary on this blog reflects the personal opinions, viewpoints and analyses of the author, Stewart Willis, providing such comments, and should not be regarded as a description of advisory services provided by Foundations Investment Advisors, LLC (“Foundations”), an SEC registered investment adviser or performance returns of any Foundations client. The views reflected in the commentary are subject to change at any time without notice. Nothing on this website constitutes investment, legal or tax advice, performance data or any recommendation that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person. Personal investment advice can only be rendered after the engagement of Foundations for services, execution of required documentation, including receipt of required disclosures. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. Foundations manages its clients’ accounts using a variety of investment techniques and strategies, which are not necessarily discussed in the commentary. Any statistical data or information obtained from or prepared by third party sources that Foundations deems reliable but in no way does Foundations guarantee the accuracy or completeness. Investments in securities involve the risk of loss. Any past performance is no guarantee of future results. Advisory services are only offered to clients or prospective clients where Foundations and its advisors are properly licensed or exempted. For more information, please go to https://adviserinfo.sec.gov and search by our firm name or by our CRD # 175083.
