The equity-indexed annuity (EIA) has been around since 1995, and in its short life has proven to be a fast-growing alternative to fixed-rate annuities and certificates of deposits.

EIAs provide a guaranteed interest rate combined with the ability to earn a percentage of certain market-driven indexes, mirroring characteristics of both fixed-rate and variable-rate annuities. The percentage of the index's gain that a customer receives varies, with some companies offering 50 percent and others offering 100 percent or more, so make sure you read the fine print.

Because every equity-indexed annuity is different, you should ask your agent or broker questions before deciding to invest, including:

· What is the annuity's term?

In general, equity-indexed annuities tie up your money from a required five to 10 ten years. Like any stock investment, the shorter the term, the greater the risk the stock market won't perform well over the holding period.

· What do you earn when the market goes up?

Equity-indexed annuities credit you anywhere from 50 to 100 percent of the price gain of the market, excluding dividends. Because you're not earning dividends, you won't earn as much as you might by investing directly in the market. The percentage rate you earn can change from year to year, so make sure you check with your agent.

· How does the company calculate your gain at the end of the term?

Some equity-indexed annuities use the market price on the day your annuity matures. Others look at the market price on each anniversary and pick the highest one. Some policies credit you with a portion of each year's market gains, while others average the gains. Make sure you understand which method the policy you're considering uses.

· Are there limits to your earnings?

Often equity-indexed annuities put a cap on yearly earnings, and some policies allow the insurer to change the cap annually. Ask your agent about this.

· What happens if stock prices decline?

If the market drops one year, you will be credited with no gain that year. The crediting method the company uses will determine what happens in subsequent years, especially if the market doesn't return to previous levels.

· What happens if you want to quit the annuity early?

Some policies will give you the guaranteed minimum return, while others will credit you with all or part of your earnings, minus the surrender fee.

· What if everything crashes?

Equity-indexed annuities carry a minimum return, but only if you keep the policy until its maturity date. The guaranteed return is usually 3 percent, but may not be 3 percent of what you paid into the policy in the first place. Some companies guarantee you will get at least 3 percent of 90 percent of what you spent. Also, make sure you understand how that minimum return is computed.

Liquidated earnings are subject to ordinary income tax, may be subject to surrender charges and, if taken prior to age 59 1⁄2, may be subject to a 10% federal income tax penalty.

Guarantees and payment of lifetime income are contingent on the claims paying ability of the issuing insurance company.

Get a Leg Up on Your ARM

When you took out an adjustable-rate mortgage (ARM) for your home, it probably seemed like a good plan at the time. After all, ARMs typically offer relatively low interest rates for the first few years of the loan.

But now that your fixed-rate period is almost over, you know your first rate adjustment is right around the corner—which likely will translate into higher monthly house payments. So, what do you? It’s time to come up with an effective plan.

If you’re facing an impending rate adjustment on your ARM, here are a few smart strategies you may want to consider:

Do your homework

A common problem among homeowners with an adjustable rate mortgage is that they don’t understand all the details of their loan. If this is the case with you, it’s time to hit the books and start studying your ARM terms more closely.

Take a look at the fine print to find out how often the rate on your mortgage can adjust and how much it can rise with each adjustment. Determine how much your monthly payment will increase with each adjustment and find out the maximum rate increase over the life of the mortgage loan.

Once you figure out where you stand with your ARM, you may have a clearer view of what steps you need to take. If you need help analyzing your ARM contract, you should consult a loan professional for an objective opinion.

Decisions, decisions

Once you’ve educated yourself about your ARM, it’s time to deal with your looming rate adjustment. Typically, you have one of three different options:

Option #1: Your first option is to refinance into a fixed-rate mortgage. The upside to this option is that you’ll never have to deal with rate adjustments again. The downside is that fixed-rate mortgage loans typically carry higher interest rates than ARMs.

Additionally, if you switch to a fixed-rate mortgage, you’ll have to pay closing costs, which are generally about 2 to 4% of the overall mortgage amount. For instance, if you have a $250,000 mortgage, you’ll probably have to pay $5,000 or more in closings costs—definitely not pocket change for most homeowners. Not to mention that in order to pull out of your ARM, you may have to pay some penalty fees. That’s why you should study your ARM contract before you make this move.

However, it could be well worth the money to move to a fixed-rate mortgage—especially if you plan to stay in your house for another three to five years or longer.

Option #2: Alternatively, you could refinance into a new ARM with more favorable contract terms. Keep in mind that if you go this route, you’ll be in the same predicament you’re in right now in a few years—facing another rate adjustment.

However, this could be an ideal option if you plan to sell your house within the next few years. That way, you’ll enjoy a lower monthly payment over the next couple of years and will hopefully sell the house before another rate adjustment hits. Of course, you’ll still have to pay closing costs and possibly some penalty fees on your current ARM.

Option #3: Your third option is to stick with your current ARM and face the rate adjustment. Depending on the type of ARM you have, the rate hike may not be that significant.

For example, if you have what’s called a 3/3 ARM, you enjoy a fixed rate for the first three years, and then your rate is adjusted every three years thereafter. Typically, the rate on this type of ARM will only go up by 2% max with each adjustment. If this is the case with your ARM, you may want to stay put. That way, you won’t have to deal with closing costs or penalty fees. Once again though, be sure to study your ARM contract closely and understand all the rate adjustment terms.

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