What Are CD Annuities

When looking for safe, stable investments with guarantees, investors have a choice between two vehicles that share several characteristics, but are markedly different in what they ultimately deliver: Bank CDs or CD annuities. Most people know what CDs are, and many are familiar with fixed annuities. Although they’re relatively new on the scene, their unique features and benefits have a lot of investors wondering just what are CD annuities.

CD Annuities Compared with Bank CDs

Essentially a CD annuity combines a fixed annuity contract with interest rate guarantees found in bank CDs. Most people know that they can go into a bank and, with a deposit of money, lock in a fixed interest rate in time deposit which is guaranteed for up to 10 years.  The longer the duration of the time deposit, the higher the fixed rate. The same concept applies to a CD annuity where longer maturities typically offer higher fix rates.  That is about where the similarities end. From there we explore some of the key differences in the two products which can produce very different outcomes.

Fixed Yields

A fixed annuity is a deferred annuity contract that includes an accumulation account. When a deposit is made to a life insurance company, it invests the funds with its general account which is a portfolio of high grade, short and long term bonds. From the yield it generates from the portfolio it credits the accumulation account with a portion of that yield. The yield is usually fixed for a period of time, from one year to ten years, after which it adjusts the yield based on its current investment experience.  One of the distinguishing features of an annuity is its tax treatment.

Bank CDs are also credited with a fixed yield, however, the yield is determined based on prevailing short term interest rates. Because they are more sensitive to short term interest rate movements, the rates offered on CDs tend to fluctuate more than the rates offered on fixed annuities. Also, because life insurers have the opportunity of generating higher yields in their bond portfolios, the rates they credit tend to be higher than the rates credited by banks on CDs.


Funds accumulating inside an annuity contract are not taxed currently enabling them to grow faster. They are taxed at ordinary income tax rates upon withdrawal, and if a withdrawal is made prior to age 59 ½, the IRS may levy a penalty of 10% of the withdrawal. Certain exceptions apply to that rule.

Interest accumulated within CDs are always taxable unless the CD is inside of a qualified retirement plan.

Guaranteed Rate Periods

The fixed rate guarantee period within a CD annuity comprises only a segment of the annuity contract term. In other words, if an annuity with a five year guarantee is purchased, the annuity contract remains in effect and the annuity owner is still subject to its withdrawal provisions. Following the guarantee period, the fixed rate is adjusted and guaranteed for one year periods. The other aspect of the guarantee period in an annuity is that it may be shorter than the fixed rate period. In other words, an annuity might offer a fixed rate for 10 years, but only guarantee that rate for five years.

At the end of a bank CDs guarantee period, the CD matures and the funds are either withdrawn or transferred into another CD.

Funds Access

A CD annuity contains withdrawal provisions which allow for annual withdrawals of up to 10% of the account value free of charge.  An excess withdrawal will trigger a surrender fee throughout the contract’s surrender period.  Typically, the surrender period lasts at least as long as the rate guarantee period so that, when the guarantee period expires, the annuity owner can make unlimited withdrawals (subject to income taxes and IRS penalties if applicable).

Bank CD are more rigid in that no withdrawals are allowed before its maturity without sacrificing the higher fixed rate. If funds are withdrawn (CDs don’t allow for partial withdrawals), the interest rate on the CDs earnings are adjusted down.

Guaranteed Income

A CD annuity can be converted into a guaranteed stream of income payable for life. Many annuities explained offer an inflation protection option which ensures that the income will keep pace with the cost-of-living index.

Bank CDs are also used to generate a safe income. The only problem, and key differentiator with annuities, is that, when one CD matures, it must rolled into another CD which may offer a lower fixed rate. In a declining interest rate environment a retiree could see his income drop over time.

Investor Safety

Annuities are considered among the safest of investments because they are backed by the financially stable life insurance companies which are very closely regulated by their state commissions. Insurers are required to maintain a high level of reserves and surplus capital to cover their obligations. Annuity owners have the added safe-guard of state guarantee funds which, depending on the state, covers annuity deposits from $100,000 up to $500,000.

Bank CDs have the backing of FDIC which, presently, covers each bank account up to $250,000 (one account per customer per bank). It is important to consider that, while  FDIC insurance is a federal program it is not backed by the full faith and credit of the U.S. government, meaning that the government has no obligation to bail out the FDIC should it become insolvent. The other consideration is that the FDIC maintains a bare fraction of the required reserves, so that a major run of bank failures such as was experienced in 2008 and 2009 could tax the capability of the FDIC to reimburse all of the banks customers. At the very least, bank customers may have to wait awhile to get their reimbursement.

Annuities are feature rich, but they are also geared towards long term investors who can afford to keep their money invested until they are at least 59 ½. Many annuity investors also maintain time deposit CDs for their more liquid needs. If your goals are more short term, or you haven’t accumulated sufficient liquid assets, CDs would be the better choice.