Annuity vs CD

One locks in a rate. The other could lock in a mistake.

Bank CDs and annuities both attract conservative savers. But they work very differently, and picking the wrong one at the wrong time could cost you tens of thousands in lost retirement income. Here is what you need to know and why the timing matters more than most people realize.

What each product actually is

A CD is a bank deposit. You lend the bank money for a set term usually 3 months to 5 years and they pay you a guaranteed interest rate. CDs are FDIC-insured up to $250,000 per institution.

An annuity is an insurance contract. You pay a premium to an insurance company, and your money grows tax-deferred. You can choose a fixed rate, growth tied to a market index with downside protection, or variable market exposure.

The big difference: a CD is a short-term savings tool. An annuity is built for long-term retirement income. But what really costs you money is what happens when the term ends.

The rate trap: why CDs leave you exposed

When a CD matures, your rate resets to whatever the bank offers that day. In a falling-rate environment, that means:

• A 5% CD matures in 2026 and rolls into a 3.2% CD. Your income drops 36% overnight.
• You cannot lock in a rate for more than one term. Every renewal is a new gamble.
• Banks set renewal rates, not the market. To get the best rate you have to shop around and move your money, which means a credit check and new account paperwork every time.

CD laddering tries to spread this risk around, but it does not get rid of it.

The annuity advantage: locked-in growth

With a fixed or fixed indexed annuity, the rate you lock in today stays in place for the life of the contract. If rates drop and they are dropping your annuity keeps performing at the original terms.

But the real advantage is not just the rate. It is what the rate does over time:

• Tax deferral. CD interest is taxed every single year. Annuity interest grows tax-deferred until you withdraw. Over 10 years, that tax drag can cost you 20-30% of your CD growth.
• Lifetime income. A CD gives you your principal back at maturity. An annuity can pay you for life no matter how long you live.
• Growth with a safety net. Fixed indexed annuities link growth to stock market indexes but come with a 0% floor. You earn nothing in down years, but you never lose principal.

Tax drag: the silent wealth killer

This is probably the most overlooked difference. CD interest gets taxed as regular income every single year. If you are in the 22% tax bracket, a 4.5% CD effectively yields only about 3.5% after taxes. Over a decade, that drag adds up to a huge gap.

Annuity earnings grow tax-deferred. The full rate compounds year after year without leaking to the IRS. You pay tax only when you withdraw and by then, you may be in a lower bracket.

This is not a small thing. Over 10 to 15 years, the difference between taxable and tax-deferred compounding on a $100,000 balance is often $15,000 to $25,000 money that stays in your pocket instead of going to the IRS.

What CDs do better than annuities

To be fair, CDs have real advantages:

• FDIC insurance. Up to $250,000 per bank. Annuity guarantees depend on the insurer financial strength and state guaranty limits.
• Full access. No surrender charges. You can get your money anytime (though some CDs have early withdrawal penalties).
• Short commitment. Terms as short as 3 months. Annuities are built for the long haul with surrender periods of 5-10 years.

If you need the money in the next 2-3 years, a CD is probably the right call. Annuities are not made for short-term savings.

The window of opportunity

Here is what is happening right now:

• CD rates peaked in late 2023 and have been steadily dropping since the Fed first cut rates.
• Annuity rates both fixed and indexed are still near their highest levels since 2007.
• Every 0.5% drop in rates reduces lifetime annuity income by about 5-8%.
• Insurance companies usually lag rate changes by 30-90 days so the window is closing.

The same $200,000 that generates about $1,100-$1,300/month in guaranteed lifetime income at today's rates will generate $950-$1,100/month if rates drop 1%. That is $1,800-$2,400 less per year every year for as long as you live.

Which one belongs in your plan?

The bottom line

If you need the money in the next 2-3 years, get the CD. It is simpler, insured, and liquid.

If you are within 5-10 years of retirement or already retired and want to lock in today's rates, pay less in taxes, and secure income you cannot outlive, an annuity deserves a hard look. The current rate environment makes the case stronger than it has been in nearly 20 years.

Rates will not stay here. Every month you wait is a month closer to lower rates and less guaranteed income.