The IUL policy is an acronym for Indexed Universal Life Insurance. The history of universal life insurance goes back to the 1970s but the arrival of IUL is quite recent. In fact, what we now know as the modern IUL policy dates back only to the mid-1990s.
IUL policies typically use a stock index to determine the interest rate payable on the cash value of a policy. This rate is effective for a specific index period (typically not exceeding one year) and then resets to a new rate with each new index segment. The interest rate-setting facility is subject to a cap and has a minimum rate under which the rate cannot go. For example, an IUL policy with a cap rate of 10% and 1% means that the interest rate cannot rise beyond 10% nor can it go below 1%.
The indices used to vary the interest rate from company to company on indexed universal life policy vary, but the most common indices available are: the S&P 500, the Dow Jones Industry Average, Nasdaq, Euro Stocks and the Russell 5000 Index. S&P is by far the most common option on index policies. These various options are commonly known as nominee accounts. So, for example, you can have an S&P 500 indexed account and a Dow Jones Industrial Average indexed account.
Most IUL policies offer a one-year index segment that tracks one-year changes in the index. The company uses the value at the beginning of the segment and the value at the end of the segment to calculate the percentage change in the index. This change is the interest rate payable from the cash value of the policy to the cap rate.
If the index change is negative, the interest rate is the minimum guaranteed rate, which is typically 0 to 1%.
According to data from the Society of Actuaries (soa.org), the original rationale for the creation of universal life insurance as a product came as a result of economic changes in the 70s. The original concept was an “alliance”Flexible premium annuity with monthly renewable life insurance rider“. Before reading it, we never considered describing it as such, but it is clearer than any description given by the insurance company.
Up to that point, the only type of permanent life insurance available was that provided by whole life insurance policies. But there was concern that inflation would hamper cash value accumulation and that the guaranteed death benefit offered throughout life would not entice the younger generation to continue paying expensive and stricter premiums.
You can also call this product an equity indexed universal life insurance policy. While the name is less common, some agents and insurance companies continue to use it.
Benefits of an IUL Policy
Indexed universal life insurance policies have a cash value component that is tax-deferred and can provide a tax-free distribution to the policy owner. Due to the use of a stock market index to determine the interest payable on the cash accrual value, the IUL provides considerable upside potential for a standard whole-life policy versus rapid cash growth.IUL also offers a flexible premium, which gives the policy owner a higher amount of money contributed to the policy each year.
Like all universal life policies, the IUL clearly details all fees associated with the policy. Potential buyers can see a detailed annual breakdown of all fees charged by the insurance company for their IUL policy.
In addition to the indexed account option, the policy owner can choose to use some or all of his money in a fixed account that simply earns an interest rate declared annually by the insurance company, which is not tied to any stock index.
IUL policies also provide various death benefit options. Policy owners can choose between a level or an increasing coverage amount.
Unlike a variable universal life insurance policy, which can lose money when the market declines, indexed universal life insurance has a minimum interest rate floor, which prevents the policyholder from losing money from the market slump.
Finally, IUL policies provide living death benefit facilities, which can provide a terminal illness, chronic illness and / or critical illness facility to policy owners. It can serve as a supplementary plan for long term care insurance.
What are the drawbacks of indexed universal life insurance?
While there are many benefits to owning an indexed universal life insurance policy, there are some important cons of indexed universal life insurance that you should understand.
IUL policies have a guaranteed bottom, which prevents you from losing money if the index has a bad year. But there are expenses that you have to cover when you own one of these policies. If the interest income from the indexing facility is less than the policy expense of the life insurance policy, you will lose some of your cash-surrender value in the policy.
You have to be careful about how much money you have invested in the policy. If you contribute too much, you can create a modified endowment contract (MEC).
The IUL has a surrender fee. This means that you will not be able to cancel your policy for many years without losing some of the cash value accumulated in your policy. Eventually the surrender charges are dropped, but it can take more than 10 years to happen.
Finally, the cost of insurance on an indexed universal life policy can increase each year. This rising cost of insurance may cause trouble to some policy owners who do not pay the premiums originally planned.
How to get an IUL policy
If after reading the above, you feel that the indexed UL policy is right for you, then you should ask for help from a licensed insurance agent.
You should understand that not all insurance companies and all insurance agents deal in indexed policies. So you need to find an agent who works with a company that sells IUL policies. Fortunately, there are quite a few companies and agents you will find to choose from.
The application process for an indexed universal life policy will be similar to the procedure for all other types of life insurance – this includes the terms whole life insurance and life insurance.
How much does an IUL cost?
The cost of UL policies indexed will be similar to whole life insurance. This means that the policy will be significantly more expensive than term insurance for the same death benefit, but IUL policies remain in place for the rest of your life.
How much can i contribute to a policy
The amount you can contribute to an indexed UL policy depends on your chosen death benefit amount and the age at issue of the policy. Larger death benefits will allow for greater contributions.
Your insurance agent can help guide you on the maximum amount that you can contribute to this policy.
Why indexed universal life insurance is so popular?
Indexed life insurance policies are popular because they give policyholders access to returns that are somewhat market related without being subject to market volatility / risk of loss. This rate of return is traditionally higher than traditional life insurance and similar universal life policies with no indexing facility.
Additionally, IUL policies provide a number of tax benefits that motivate a lot of people to look at the cash value as almost as much as a Roth IRA-like facility. That being said, a Roth IRA is a very different financial vehicle that should not be confused with life insurance.
Lastly, there are some people who use IUL and other types of cash value life insurance to provide retirement income that reduces the tax on Social Security income.
Should You Get Indexed Universal Life Insurance?
The decision to purchase an indexed universal life policy depends on several factors. For someone who needs / wants a death benefit and is looking for an additional way to accumulate wealth through insurance cash value, these policies may be a good fit.
Additionally, if you need life insurance that exceeds the coverage period offered by life insurance policies, you can find what you are looking for with an IUL.