In March, the Federal Reserve is expected to raise interest rates for the first time in four years. For anyone considering buying an annuity or other income-oriented vehicles, that should be good news.

“Rising rates could have a very positive impact on annuities and the benefits they provide,” says Tim Rembowski, a vice president at DPL Financial Partners in Louisville, Ky.

But which annuities, and exactly how they will be impacted, varies.

Fixed Annuities
Fixed annuities, which are insurance contracts that pay out a specific, guaranteed rate, are most directly affected by interest rates. As rates rise, “investors can get a better payout for the same premium,” says Philip Chao, principal at Experiential Wealth in Cabin John, Md.

Fixed-indexed annuities (FIAs), though, pay out a rate based on the performance of a market index, such as the S&P 500. Holders of these contracts benefit when the index rises, and there is usually a limit on losses if the index falls.

But the amount of index gain that’s credited to the FIA can fluctuate. If the insurance company’s general account grows, the company can offer a higher cap rate, which is the percentage of index gains that are credited to the FIAs. And insurance companies’ general accounts are expected to grow as interest rates rise. “Shoring up the balance sheet enables insurers to offer more attractive annuities,” says Karl Wagner III, a partner at Biondo Investment Advisors in Milford, Pa.

That’s true no matter what type of annuity you’re talking about. Eric Henderson, president of Nationwide Annuity in Columbus, Ohio, puts it this way: “Rising interest rates allow us to offer increasingly competitive products.”

At Lincoln Financial Group, the annuity provider headquartered in Radnor, Pa., chief investment officer Jayson Bronchetti adds, “The new money yields of our investment portfolio also increase, which is a positive contributor within the overall annuity rate-setting process.”

Variable Annuities
Also expect these higher crediting rates on registered index-linked annuities (RILAs), an increasingly popular type of variable annuity (VA) that uses a stock index to determine gains and losses.

In general, variable annuities are more closely pinned to equity markets. Traditional VAs—not the RILA variety—hold contract assets in mutual-fund-like subaccounts. If equity markets slump with rising rates, their performance will suffer, too.

“If you absolutely knew that stocks would have a loss, I suppose a fixed annuity would be better [than a variable annuity],” says Wade Pfau, director of the Retirement Income Certified Professional designation program at the American College of Financial Services in King of Prussia, Pa. But, he adds, that’s only true for VAs without a guaranteed living benefit rider, which is an optional add-on that, for a fee, secures a separate income payout.

“Rising interest rates will give insurance companies more flexibility to increase payout rates on living benefits,” says Todd Giesing, an assistant vice president at the Secure Retirement Institute in Windsor, Conn.

Predicting which way equity markets will go is impossible, of course. “It sort of depends on whether the rise in bond yields is more or less than the anticipated rise in bond yields that’s already priced in,” says Joe Tomlinson, an actuary and financial planner currently based in West Yorkshire, England.

Annuities Versus Bonds
To be sure, a rise in interest rates will cause an increase in most newly issued bond yields (as well as savings accounts, money market accounts and CDs). Relatively speaking, how will annuities stack up?

This current increasing interest-rate cycle is still in its early innings. “The rising tide of higher rates lifts all interest-bearing boats,” says Frank O’Connor, a vice president at the Insured Retirement Institute in Washington, D.C.

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