Investment grade insurance contracts have become popular financial products for certain investors. These contracts from highly-rated insurance companies provide principal protection along with upside potential based on market performance. But what exactly are these free investment grade insurance contracts and what are some real-world examples? This article will provide an overview of these unique structures and walk through illustrations of free contracts investors may come across.
Defining investment grade insurance contracts
Investment grade insurance contracts are issued by insurers with high financial strength ratings from agencies like A.M. Best (A- or higher) and Moody’s (A3 or better). They provide a minimum guaranteed return of principal, while also offering the potential for higher returns linked to upside in a market index. These contracts are designed to be long-term and illiquid, often spanning 5-10 years. Key benefits include downside protection and tax-deferred growth potential.
Understanding ‘free’ contracts
Certain investment grade insurance contracts are marketed as ‘free’ because they provide a signing bonus or initial premium bonus to the contract holder. This allows the investor to put money into the contract without an out-of-pocket payment. Instead, the bonus covers the initial costs. While appealing, investors should note the trade-offs with a free contract, such as higher surrender charges and lower cap rates on gains.
Illustrating a sample free index annuity
Here is an example of a free index annuity that provides a 5% premium bonus: $100,000 contract, 5-year term, 5% annual point-to-point cap, and 8% annual participation rate. The insurer provides a $5,000 premium bonus to cover the initial purchase payments. The contract guarantees return of the full $100,000 principal and offers upside linked to the S&P 500 within the cap and participation rate limits. While not having to pay upfront is enticing, the investor accepts potentially lower earnings in return.
Free investment grade insurance contracts use signing or premium bonuses to waive initial purchase payments for the investor. But limitations on earnings potential and high surrender fees should be reviewed. Weighing the trade-offs allows for an informed decision on these unique structures.