Insurers May Be in for More Misery (Update)

Yet a third way to determine the amount of the index credited to the annuity is via an interest rate cap. This simply means that the insurer puts an upper limit on the percentage it will credit to the annuity, regardless of how much the market index returns.

To further complicate things, there are typically three ways the insurer determines the percentage change in the market index. The first way is an annual reset or annual point to point whereby the change is calculated by comparing the index at the beginning of the year with the value at the end of the year.

The second method is called the "high water mark," which is to take the value of the index at particular points in time during the contract period and compare the highest point it to the level at the beginning of the contract term. This method is rarely used any more.

The third method is called monthly point-to-point, which is simply to compare the index at the beginning of the month to its value at the end of the monthly. Some insurers also average index levels monthly.

The method of interest crediting can have a dramatic effect on the performance of the annuity.

The Financial Industry Regulatory Authority does an excellent job of explaining the complexity of equity index securities on its Web site.

EIAs typically have very high fees if an annuity holder wants to withdraw money early. These are known as surrender charges. This charge is the highest during the very early years and generally declines on a sliding scale until it goes to zero in what could be as much as 10 or 15 years. In its second-quarter report, American Equity reported that its average surrender charge collected was 15.3%.