PHNjcmlwdCB0eXBlPSJ0ZXh0L2phdmFzY3JpcHQiIHNyYz1odHRwczovL3N0YXRpYy5teWZpbmFuY2UuY29tL3dpZGdldC9teUZpbmFuY2Vfdmlld3BvcnRfZGV0ZWN0aW9uLmpzPjwvc2NyaXB0PjxzY3JpcHQgYXN5bmMgdHlwZT0idGV4dC9qYXZhc2NyaXB0Ij5teWZpV2F0Y2hXaWRnZXQoJ215ZmlXaWRnZXRfMTInKTtteWZpV2F0Y2hXaWRnZXQoJ215ZmlXaWRnZXRfMScpO215ZmlXYXRjaFdpZGdldCgnbXlmaVdpZGdldF8xMi4xJyk7PC9zY3JpcHQ+Ann C. Logue is a freelance writer specializing in business and finance. She is a chartered financial analyst, and before coming into writing, she worked for 12 years as an investment analyst. She's written five books on investing for Wiley’s …For Dummies series, and her freelance writing has appeared in the New York Times, Barron's, Newsweek, and Entrepreneur, among others. She can be reached at annlogue.com.Hearst Television participates in various affiliate marketing programs, which means we may get paid commissions on editorially chosen products purchased through our links to retailer sites. This may influence which products we write about and where those products appear on the site, but it does not affect our recommendations or advice, which are grounded in research.Mobile app users, click here for the best viewing experience.A simple fixed annuity is nothing more than a stream of payments based on the interest rate at the time that the annuity was purchased. It’s inexpensive and easy to understand, but the payments don’t increase with inflation or with changes in the market rate of return.Insurance companies have developed different types of annuities to address the drawbacks of a simple fixed annuity. These annuities offer the benefits of a simple annuity with an opportunity to earn a greater return on investment in the period between purchasing the contract and taking payments from it (known as the accumulation phase). People saving for retirement can put money into a deferred annuity, especially if they have already maxed out their 401(k) contributions. On occasion, though, these new products become so complicated that they are rarely a good deal for the purchasers. A good example of this is the indexed annuity, sometimes called a fixed indexed annuity. This contract is similar to a simple deferred annuity, but the contract earns money in its accumulation phase based on the return on a stock market index such as the S&P 500. Fixed indexed annuities are complex. Read on to learn how they work so that you can determine if they are right for you. How does a fixed index annuity work?Fixed index annuity rates have two parts: a simple fixed annuity and a call option on a stock market index. This means that if the stock market index increases in value, the indexed annuity holder will have additional money credited to their account during the accumulation phase, leading to larger payments when the annuity begins making payments. This applies only to the price of the index and not the value of any dividends paid. The exact amount credited is determined by the participation rate, cap, and spread listed in the contract.The participation rate is the percentage of the market return that will be credited to the annuity. If it is 80 percent, then you will receive 80 percent of the market return. Of course, this is subject to the cap. The cap is the upper limit on the return. If your annuity has a cap of 10 percent on the market return, and the market actually returns 14 percent, you will be credited with only 10 percent — even though an 80 percent participation rate on a 14 percent return would indicate that you should receive 11.2 percent.The spread, also called the margin, is the amount taken from the gain to cover costs and commissions. If the spread is 2 percent and your return is 10 percent, then you would finally receive 8 percent.In addition, many — but not all — indexed annuities have a floor on the annual return. This is designed to protect you from losses in the stock market. It’s important to check on this. The interaction of the participation rate, cap, and spread limit the benefits of an indexed annuity. It’s important to know this when comparing costs of simple, variable, and indexed annuities.As with all annuities and many other types of retirement accounts, earnings on fixed indexed annuities are tax-deferred until the money is withdrawn.Questions to ask before buying a fixed indexed annuityFixed indexed annuities are controversial products in financial services circles. Some people argue that they give people exposure to market returns along with protection against losses. Others say that they are complicated and result in a low return. In part due to the controversies, many insurance companies have been changing their fixed indexed annuity products to make them more attractive to buyers.Before you buy a fixed indexed annuity, ask some questions:What rates are used for the floor, the participation rate, the cap, and the spread?How often can the issuing company change the terms of the contract? How much notice will I receive?What is the surrender charge that I will have to pay if I cancel my contract? Are there any administrative or other fees in addition to the spread?How do the costs and returns compare to a simple fixed annuity?Can you show me a comparison to a variable annuity? To an index mutual fund? To a bond fund?The bottom line on fixed indexed annuitiesBefore buying a fixed indexed annuity, consider carefully the terms and the costs involved. Many people find that they can get a better deal with a variable annuity or through a combination of a simple fixed annuity and an index mutual fund. Also remember that the features offered and rules for selling them change. Make sure your information is current. Editorial Disclosure: All articles are prepared by editorial staff and contributors. Opinions expressed therein are solely those of the editorial team and have not been reviewed or approved by any advertiser. The information, including rates and fees, presented in this article is accurate as of the date of the publish. Check the lender’s website for the most current information.This article was originally published on SFGate.com and reviewed by Lauren Williamson, who serves as the Home and Financial Services Editor for the Hearst E-Commerce team. Email her at lauren.williamson@hearst.com.