Cap Rate

How Cap Rates Work

Cap rates are the ceiling on your potential gains in a Fixed Index Annuity. They exist because insurance companies need to fund the 0% floor protection—the guarantee that you can't lose money even if the market crashes.

Here's the trade: you give up unlimited upside (like you'd get in stocks) in exchange for downside protection. The insurance company uses options strategies to deliver this combination, and cap rates are how they limit their risk exposure.

📊 Real Example: Cap Rate in Action

Scenario: Sarah has a $200,000 FIA with an 11% annual cap rate.

Year 1: S&P 500 gains 15%
→ Sarah's credited interest: 11% (capped) = $22,000 gain

Year 2: S&P 500 gains 8%
→ Sarah's credited interest: 8% (below cap) = $17,760 gain

Year 3: S&P 500 loses 12%
→ Sarah's credited interest: 0% (floor protection) = $0 loss

Result: Sarah captured most upside in good years, avoided losses in bad year.

Current Cap Rates (2026)

Cap rates vary by carrier, term length, and market conditions:

Highest available: 12.5% (10-year term, highly-rated carriers)
Industry average: 10.5-11% (7-year term)
Lowest available: 8.5% (5-year term, bonus products)

Higher cap rates typically mean longer surrender periods or fewer other features. There's always a trade-off.

Cap Rates vs. Participation Rates

Feature	Cap Rate	Participation Rate
What it is	Maximum % you can earn	% of index gains you receive
Example	11% cap on S&P 500	125% of index gain
Typical range	8-12%	40-150%
Works together?	Participation rate applies first, then cap. Example: Index gains 10% × 125% participation = 12.5%, but 11% cap means you get 11%.

Can Cap Rates Change?

Yes, in most cases. Insurance companies typically reserve the right to adjust cap rates annually. This is important to understand:

Guaranteed cap: Rare. Some products guarantee cap for first year or entire term (costs more)
Current cap: Most common. Company can adjust annually based on interest rates and market conditions
Minimum cap: Some contracts guarantee a floor (e.g., "never below 7%")

⚠️ Important: When comparing FIAs, ask whether the cap rate is guaranteed or can be adjusted. A 12% current cap that drops to 8% next year is worse than a guaranteed 10% cap for 10 years.

Higher Isn't Always Better

A higher cap rate sounds great, but consider what you're giving up:

Longer surrender period: 12% cap but locked in for 12 years
Fewer features: High cap but no income rider option
Lower participation rate: 12% cap but only 60% participation
Less favorable crediting method: Monthly averaging vs. annual point-to-point

What to Watch For

Red Flags:

Advertised cap rates that are "introductory" or "bonus" rates for year 1 only
No minimum cap guarantee (could drop to 0% theoretically)
Cap rates that seem too good to be true (13-14%+) with hidden fees
Advisors who only talk about the cap, ignore other factors

The Bottom Line

Cap rates are one part of the FIA equation. A 10.5% cap with a strong participation rate, good crediting method, and flexible features beats a 12% cap with unfavorable terms.

Focus on the total package, not just the headline cap rate.