What is a Point to Point Annuity?
Annual point-to-point is a commonly used fixed index annuity crediting method that determines an index’s performance by comparing two points in time; the first day and the last day of the term. Annual point to point was the crediting strategy used in the first-ever index annuity and remains the most commonly used method today.
Two-year point-to-point annuity crediting methods have become more commonplace over the last 12 to 24 months. A two-year point-to-point annuity is essentially the same as an annual point to point except it only measures the index performance every two years rather than every year.
The two-year point-to-point always has better crediting rates than the annual point-to-point annuity because insurers are able to purchase 2-year call options which are less expensive than the one-year call options they purchase when you buy an annual point-to-point annuity.
While no one likes knowing they are guaranteed to earn 0% interest every other year I believe you should at least consider allocating a portion of your annuity to a two-year point to point if that option is available.
I recommend our clients put 50% in the annual point-to-point option and 50% in the two-year point-to-point option. Then, on the first contract anniversary re-allocate the 50% that was in the annual point to point into the two-year point to point annuity crediting strategy.
By implementing this “Ladder Strategy” you are able to receive the higher upside potential offered in a two-year point to point without the downside of earning a guaranteed 9% every other year.
Annual Point to Point Annuity Calculation
We will use the hypothetical index performance in the chart below to provide an example of how to calculate annual point-to-point annuity performance.
There are three commonly used crediting components or “limiting factors” used to determine what portion of the annual point-to-point index performance is actually credited to your annuity account.
- Annual Point to Point with a Cap
- Annual Point to Point with a Spread
- Annual Point to Point with a Participation Rate
Using the 7 % annual index performance determine from the chart above (107,000-100,000 =7000. 100,000 / 7000 = 7%) we will calculate the annuity interest credited assuming a 5% cap, 2% spread and a 75% participation rate.
- 5% Cap = 5% Interest credited (index change up to the cap)
- 2% Spread = 5% Interest credited (index change – spread)
- 75% Participation Rate = 5.25% Interest Credited (index change X spread)
2 Year Point to Point
Two-year point to point uses the index value from two points in two contract years apart so this index annuity crediting method may be a good choice if you want to limit the effects of volatility between these two points.
The index value from the beginning of the crediting period is subtracted from the value of the index at the end of your second crediting period (two years). The percentage of change is calculated. If the value at the end of the second year is higher than the beginning of period one a crediting component is applied to determine your interest credited.