Your client is invested in a registered indexed-linked annuity (RILA). The RILA contains a 7% floor, an 80% participation rate, and an overall cap rate of 10%. Suppose in years one and two, the S&P 500 returns 12% and -10%, respectively. What interest rate would be credited to the RILA during these two years?
To calculate the interest rate credited to the RILA during these two years, we need to consider the performance of the S&P 500 in relation to the floor, participation rate, and cap rate.
In year one, the S&P 500 return is 12%. Since this is above the floor of 7%, the interest rate credited will be the S&P 500 return multiplied by the participation rate. So, the interest rate credited in year one is 12% * 80% = 9.6%.
In year two, the S&P 500 return is -10%. Since this is below the floor of 7%, the interest rate credited will be the floor rate. So, the interest rate credited in year two is 7%.
Therefore, the interest rate credited to the RILA during these two years is 9.6% in year one and 7% in year two.
To determine the interest rate credited to the RILA during these two years, we need to calculate it separately for each year based on the given floor, participation rate, and cap rate.
Year 1:
The S&P 500 return is 12%.
Since the floor of the RILA is 7%, the credited interest rate cannot be lower than this.
The participation rate is 80%, which means the credited interest rate is calculated as 80% of the S&P 500 return.
So, the credited interest rate for year one is 80% of 12% = 9.6%.
Year 2:
The S&P 500 return is -10%.
Again, the floor of the RILA is 7%, so the credited interest rate cannot be lower than this.
The participation rate is still 80%, but this time we have a cap rate of 10%, which means the credited interest rate cannot exceed this.
So, the credited interest rate for year two is the lesser of 80% of -10% (which is -8%) and the cap rate of 10%. Therefore, the credited interest rate for year two is -8%.
In summary:
Year 1: Credited interest rate is 9.6%.
Year 2: Credited interest rate is -8%.