These days it seems investors are looking for safety and security more than ever, especially after the major stock market correction witnessed from 1999-2002. Four years later, numerous brokerage and variable annuity accounts still have not recovered their losses from that time period. Unfortunately, many investors were counting on those funds to provide income during their retirements.

Thus the introduction of the equity indexed annuity, or EIA, to the main stream marketplace. Designed to provide a greater return than the traditional fixed annuity, the equity indexed annuity can be a reliable alternative to a brokerage account. Only fifteen years old, several billion dollars have been deposited into these accounts.

First, a potential investor should have a little background information. Generally, an annuity functions in the following manner: The investor, usually called an owner or annuitant, agrees to deposit funds with an insurance company for a specified period of time, say 7 years. The annuity is said to be in deferral during that period of time. While in deferral, most annuities will allow for partial distributions of interest gains or a yearly 10% free withdrawal or the required minimum distribution mandated by the I.R.S. (Many annuities allow for larger distributions if the owner is confined to a nursing home or is terminally ill.) Still another way to distribute annuity dollars is through a systematic withdrawal, referred to as an annuitization, based on a pre-determined schedule, say 5 years. However, if the consumer decides to take the entire contract out as a lump sum before the annuity has matured, then penalties are invoked based on the surrender schedule in the annuity contract. If the investor passes away, the lump sum of the annuity is paid to a beneficiary at passing unless other arrangements have been made.

Technically, equity indexed annuities are characterized as fixed annuities by the various Departments of Insurance in each state. That is to say, at no point does the investor ever own any variable type of security like a stock, bond or mutual fund within the EIA account. These accounts do not fluctuate in value like a variable annuity might. Yet the equity indexed annuity is not like your typical fixed annuity either.

What makes EIAs different than a traditional fixed annuity is how interest is credited to the account. Typically, the insurance company will buy an option in a particular index like the DOW, S&P 500 or the NASDAQ. After a period of time, usually one year, the option contract comes due. One of two things will then occur. If the market index has advanced, the option is cashed in and interest is credited to the annuity principal. Conversely, if the market has retreated, the option expires and no interest is credited to the account for that year.

In practice, the annuity either gains or maintains value each year, but the investment cannot lose value due to negative market fluctuation. (It is also important to note that all EIAs have a minimum guarantee associated with their returns. For example, this guarantee might state that if the market declines every year over the life of the annuity, the insurance company will guarantee payment of 2% on 88% of the premium deposited. However, it is practically unheard of for this safety feature to be utilized.) Investors should also know that most equity-indexed annuities have a fixed interest account as an additional investment option. When interest rates are high and the stock market is in decline, the fixed account might be used to credit interest to the annuity principal.

How do these annuities perform? Historically many of these accounts have averaged returns of 7% or better. In years when the broader markets have performed well so have EIAs. It is not uncommon for investors to enjoy interest payments during these prosperous years of 10-20% or better. But the crucial value of these accounts is realized during rapid market declines, when the equity indexed annuity will maintain its principal as well as interest gains from past years.

These facts may explain the recent popularity of EIAs, especially among retirees looking to preserve a lifetimes worth of hard work. With the market advancing and declining so rapidly, many consumers are looking for safety and security without having to sacrifice reasonable interest returns. Granted, these annuities will not return 50% in one year, like a fortunate stock or fund pick might, but the peace of mind investors gain knowing their investment cannot decline has many placing a portion of their retirement funds into these accounts.