Permanent / IUL
Whereas term life insurance is designed to exist for a temporary period, permanent life insurance is designed to last your entire life. Probably the most common type of permanent life insurance is whole life insurance (hence, designed to last your whole life). Whole life insurances offer a cash value component which is backed and guaranteed by the insurance carrier’s assets. Whole life offers guaranteed level premium, guaranteed cash value, and a guaranteed death benefit. Generally speaking, the cost of whole life insurance (and for other types of permanent insurance, for that matter) is more expensive than term, all things being equal. Other agents and advisors mistakenly state that whole life – and all permanent insurance policies – is more expensive due to the cash value component. That reason is not necessarily the case. The real reason is actually driven by you, through a definition called the cost of insurance. The insurance carrier’s actuaries (the people who determine mortality risks and rates) determine what that is. All of us fall into a cost of insurance category based on our health status and underwriting. As we age, predictably our cost of insurance increases. How much it increases is based on the underwriting process when we applied and resulting health classification. Without getting into the weeds, whole life has to be designed to incorporate the cash value to offset this cost of insurance and keep the premiums level and guaranteed for life. Did we not say one of our goals is to educate!! 🙂
With the aforementioned benefits of term life insurance, why would anyone want permanent insurance? There can be many reasons:
- To prepay your funeral expenses. Remember, the benefit from a life insurance – like all – is income tax-free. A permanent life insurance policy may be a more economical option than saving money in a tax-deferred or taxable account, which will ultimately be taxed to the beneficiary and potentially subject to market risk
- You have end-of-life estate needs. It could be that you need to pay cosigned loans or other debts
- You will have an estate tax impact
- You want to provide an income-and-estate tax-free mechanism of charitable giving
- you want to pre-pay your policy with limited pay life insurance
- You want to supplement retirement income for your spouse
- You have a pension through your employer and want to maximize its payout.
- You are a business owner and need to fund a business agreement
- You have a special circumstance, such as children, a spouse, or family members who need special needs assistance and care after your death
- You simply want coverage for life
Still confused? Here’s an easy trick to see if you need any permanent life insurance coverage. The easiest way to distinguish term life insurance from permanent / whole life is that you purchase term insurance to cover expenses IF you die and permanent insurance to cover expenses for WHEN you die. IF you die, how will the mortgage, loans be paid and standard of living continue? WHEN you die, how your funeral will be paid, how will your spouse continue his or her standard of living during retirement? Permanent insurance is designed to provide coverage for life whereas, as you now know, term insurance only provides coverage for a term.
Don’t let a pushy life insurance agent try to convince you whole life is a better option than term. You’ll see a lot of dialogue online from agents and advisors stating permanent insurance is better than term. While it is true that permanent insurance is needed for any of the situations above, it is not appropriate to cover the “IF” you die. The agent may say that whole life will ultimately be cheaper than term. They may have a point as illustrated in this example:
Let’s say you compare a 30 year term and whole life of $100,000 death benefit. The applicant and insured is a healthy, 35-year-old man. And, let’s make it a point that this person will cancel the whole life in 30 years, the same year as the term policy. To illustrate, the numbers are all made up, let’s say those annual premiums for term are $200/year and for the whole life is $1,350/year. Yikes, now you see why we promote term first. You can put that $1,150 difference away for college and retirement! However, the whole life agent will say there is cash value. If you canceled the whole life policy at 65 (in 30 years, same as when the term expires), the insurance company would mail you a check for the cash value. Let’s say in this example the cash value is $56,000 at age 65. How do the numbers look now?
Term cost: $200/yr X 30 yrs = $6,000 total cost
WL cost: $1,350/yr X 30 yrs = $40,500 cost – $56,000 cash value = $15,500 gain
Wow! It makes a convincing argument that the 35 year old should purchase the whole life insurance policy. In 30 years, he will have net about $15,500 instead of paying $6,000! This is a true point.
However, not so fast. Let’s say the 35-year-old invests that $1,150 annual difference into an appropriate mutual fund earning 8%. What do the results look like now over 30 years?
$1,150 per year invested at 8% per year for 30 years will approximately be $130,000! Now, what could be the better option? (Sure, the gain in $130,000 could be taxable – but so is the gain on life insurance – and subject to market risk, but which would you rather have? A sure $15,500 or the chance for a higher growth value?)
Universal Life Insurance
Do you remember those criss-cross jokes? What do you get when you cross a sheep and a bee? A Bah-Humbug. (Ok, we’ll stick to what we know and won’t quit our day jobs.) That’s kind of how Universal Life is. It is considered permanent insurance as it has a cash value component and is designed for life, but it has the flexibility that reminds people of term insurance, specifically the ability to pay a low amount of annual premium, or none at all.
The difference of universal life versus whole life lies in its construction. While we won’t explain in detail here (we will really bore you to death, no pun intended!), it is simply how the cost of insurance is charged and how the interest rate is credited to your policy. Because of the construction, a universal life policy becomes a flexible-type life insurance. Depending on the cash value, you can pay less of a premium in a particular month or not pay at all. Generally speaking, none of the death benefits and cash values are guaranteed (although many carriers are now guaranteeing cash values up to a certain age). It is a very flexible life insurance policy. Some policies offer a low minimum premium to start, and that can draw people to it. In summary, a universal life insurance requires vigilance as your cost of insurance increases while interest rates can change. If interest rates drop low enough – as we have seen in the last 30 years – you will require to pay a larger premium to support the cost of insurance. It is these situations that make current universal life policy holders unnerved.
There are two popular universal life policies which we will cover now: Index Universal Life and Guaranteed Universal Life.
There is a very popular universal life insurance product on the market called index universal life (IUL) insurance. Maybe other agents and advisors have pushed it to you. Whereas the cash value component of a universal life policy is typically credited by an interest rate from the insurance company, the cash value of an IUL policy is measured against an equity or bond index, such as the S&P 500 index. You may have heard from these advisors that you can “enjoy the upside of the market without the downside risk!”. While there is some truth to that, IULs are not the panacea as these advisors make them out to be – riskless and a “set and forget” savings vehicle. Remember, it is still life insurance! And, just like a traditional UL policy, IULs require vigilance to make sure they remain – and your cash value – in force. However, an IUL can be useful in those situations described above and a possible alternative to a traditional retirement savings vehicle. If structured properly, withdrawing the cash value could be similar to that as a Roth IRA – tax-free income.
This can be a good alternative; however, it is important to note that IULs still carry fees and other charges that draw on the cash value. If you would like to know more about index universal life policies and see if they are a good fit in your unique situation, feel free to contact us. We will determine if an IUL is in your best interest.
Even though the name of guaranteed universal life (GUL) tends to indicate a permanent policy with cash value, it really isn’t. A GUL does not have a separate cash value. In fact: it has none. Think of it as term insurance for (nearly – you’ll see why) life. Whereas term insurance insures you for a specific term – 10, 20, 30, etc. – a GUL insures you to a specific age – 90, 95, 100, or 121 (essentially for life). Since there is no cash value, the premiums are lower. Unlike a typical universal life policy, the GUL cost of insurance is the same each year, similar to that as a typical term life insurance policy.
We like GULs for the simple reason that it has a lot of permanent life insurance attributes, but not the cost of permanent insurance. A GUL can be useful in the following areas, including, but not limited to:
- Needing coverage for life (nearly – it is conceivable you could select to age 95 option and live to 96)
- Pension maximization
- Estate planning or estate equalization – a GUL could be beneficial for buy/sell business agreements, paying estate tax, or charitable
- Supplemental retirement income for a spouse
- Really, all of the benefits we have talked about
If you feel that you need a GUL, we can help and determine if one is in your best interest. A GUL can be a viable and less expensive alternative compared to a typical whole life policy.
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