Indexed Universal Life Insurance Policies (IUL)
Indexed Universal Life (IUL) insurance policies are a relatively new ‘hybrid’ product that insurance companies offer, combining the best aspects of the fixed whole life and the variable life insurance.
The main distinguishing feature of this type of life insurance is that it allows you to invest the cash value in index options that follow the movement of an index, such as the Dow Jones Industrial Average and the S&P 500.
Benefits of Indexed Universal Life Insurance
- You can earn a credited interest rate that is higher than traditional cash-value policies, without subjecting yourself to unnecessary risk.
- Just like any permanent life policy, equity indexed universal life insurance provides the cash value element. The difference is that here you have the option to participate indirectly in the upward movement of a stock index without the downside risk associated with the stock market. The interest to the cash values increases with the upward annual movement of a stock index, not including the dividends.
- Indexed universal life offers a number of tax advantages: death proceeds are not subject to tax at death; cash values build up tax-free and there is the possibility of tax-managed earnings for education or retirement.
- With indexed universal life policies, the cash-surrender value can reach an annual growth cap of about 10-14 percent. In years when the equity index is flat, the cash value reaches the floor, which is usually guaranteed to be 0%. Some insurance companies offer a guarantee of a minimum interest rate for a certain period of time.
How an IUL policy works
IUL policies feature a flexible premium and a cash value side fund. When you pay premiums into the policy, the insurance company invests the premiums in the general account of the insurance company. The insurance company, in turn, invests the general account in the general stock market, largely using options. The policy owner receives a guaranteed credit rating, often comparable to a certificate of deposit. If stocks do well, the policy owner also gets credited a portion of stock market returns. If stocks fall, however, the policy owner still gets the minimum credit rating.
Taxation of IUL policies
IUL policies are life insurance policies, which have generally received favorable tax treatment from Congress. There is no tax deduction on premiums paid. But the cash value of the policy grows tax free, and the policy owner can generally access the cash value of the policy tax free at any time, provided the policy remains in force. Since there is no income tax or capital gains tax on the proceeds of withdrawals or loans against in force policies, and since there is no 10 percent penalty on proceeds received prior to age 59-1/2 , IUL policies have become popular savings vehicles for some individuals, especially those who earn too much to qualify for retirement accounts, such as IRAs or 401ks, or who have maximized allowable contributions.
Indexed universal life policies have favorable tax treatment, no restrictions on what the cash value can be used for, and provide a tax-free cash death benefit for the policy beneficiary in the event of the death of the insured. Additionally, the cash value in an IUL policy generally receives some creditor protection, depending on the state, and does not count against the family for the purposes of determining need-based financial aid for college. Finally, IUL policies do provide some safety of capital, because the policy owner is guaranteed a minimum crediting rating. However, policy premiums are frequently higher than the guaranteed rate, especially on low-balance cash values.
Term Insurance is the simplest form of life insurance. It pays only if death occurs during the term of the policy, which is usually from one to 30 years. Most term policies have no other benefit provisions.
There are two basic types of term life insurance policies – level term and decreasing term.
- Level term means that the death benefit stays the same throughout the duration of the policy.
- Decreasing term means that the death benefit drops, usually in one-year increments, over the course of the policy’s term. In 2003, virtually all (97 percent) of the term life insurance bought was level term.
What are the types of term insurance policies?
Term insurance comes in two basic varieties – level term and decreasing term. These days, almost everyone buys level term insurance. The terms “level” and “decreasing” refer to the death benefit amount during the term of the policy. A level term policy pays the same benefit amount if death occurs at any point during the term.
Common types of level term are:
- Yearly (or annually) renewable term
- 5-year renewable term
- 10-year term
- 15-year term
- 20-year term
- 25-year term
- 30-year term
Term to a specified age (usually 65) Yearly renewable term, once popular, is no longer a top seller. The most popular type is now 20-year term. Most companies will not sell term insurance to an applicant for a term that ends past his or her 80th birthday.
If a policy is “renewable,” that means it continues in force for an additional term or terms, up to a specified age, even if the health of the insured (or other factors) would cause him or her to be rejected if he or she applied for a new life insurance policy.
Generally, the premium for the policy is based on the insured person’s age and health at the policy’s start, and the premium remains the same (level) for the length of the term. So, premiums for 5-year renewable term can be level for 5 years, then to a new rate reflecting the new age of the insured, and so on every five years. Some longer term policies will guarantee that the premium will not increase during the term; others don’t make that guarantee, enabling the insurance company to raise the rate during the policy’s term.
Some term policies are convertible. This means that the policy’s owner has the right to change it into a permanent type of life insurance without additional evidence of insurability.
“Return of Premium”
In most types of term insurance, including homeowners and auto insurance, if you haven’t had a claim under the policy by the time it expires, you get no refund of the premium. Your premium bought the protection that you had but didn’t need, and you’ve received fair value. Some term life insurance consumers have been unhappy at this outcome, so some insurers have created term life with a “return of premium” feature. The premiums for the insurance with this feature are often significantly higher than for policies without it, and they generally require that you keep the policy in force to its term or else you forfeit the return of premium benefit. Some policies will return the base premium but not the extra premium (for the return benefit), and others will return both.