Are You Losing Money in Your Universal Life Insurance Policy?

In an article titled, “Draining Away,” The Wall Street Journal describes the “ticking time bomb” that could cost traditional universal life insurance (UL) policyholders “tens of thousands of dollars now—or hundreds of thousands later.”

If you own a universal life insurance policy that has “cash value” or “cash accumulation,” you are at risk of being put in an extremely unfavorable position sometime in the foreseeable future. You could be asked to pay thousands or even tens of thousands of dollars out of pocket in order to keep your universal life policy, or be subject to a lapse in coverage. If you are in your later years and/or in poor health, you might even be left without any life insurance coverage.

What’s causing so many people to not only lose money from their universal life policy, but also lose the policy altogether?

Quick Article Guide:

1. The Downplayed Risk in Non-Guaranteed Universal Life Insurance
2. How Cash Value Really Works (Must-Read)
3. Management Fees in Non-Guaranteed Universal Life Insurance
4. Your Cost of Insurance is Rising with Every Birthday
5. The Heyday Has Passed
6. Why You Should Keep Your Investments and Life Insurance Separate
7. A New Trend in Permanent Life Insurance

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The Downplayed Risk in Non-Guaranteed Universal Life Insurance

Universal life insurance is often sold with an investment component, called “cash value” or “cash accumulation,” that is non-guaranteed. In a non-guaranteed universal life policy, the insured pays the premium of their life insurance as well as some additional money to “overfund the policy” and build cash value. The idea is that the cash value will build over time and serve as interest-bearing savings, but that’s not always the case. In fact, it’s not even usually the case.

When an agent sells you a non-guaranteed policy, they will typically talk about the “assumptive” interest rate, which is a hypothetical illustration of how well your policy may perform in ideal market conditions. The only thing you can truly bank on in a non-guaranteed policy is the guaranteed interest rate disclosed by the insurance company, which is naturally much lower than the assumptive rate agents use. The vast majority of traditional universal life insurance policies earn only the minimum disclosed rate, not the assumptive rate.

In an article titled, “Retirees Stung by ‘Universal Life’ Cost,The Wall Street Journal explains that insurance companies are not liable for any assumptive rates of return your agent may have suggested. When pressed about this confusion, universal life insurance companies point to the disclosed minimum guaranteed rate.

How Cash Value Really Works (Must-Read)

The most dangerous part of a universal life insurance policy is the “cash value.” So many people misunderstand cash value to be a growing money tree, and agents will lead them further into the wrong thought process by implying that the insured can use cash value to send their child to college, fund a family vacation, or retire.

If you take away one thing from this article, let it be that the cash value in life insurance is never really yours. Here’s why:

What Happens if You Borrow from Your Cash Value?

Understand that if you withdraw the cash value in your policy, you’re taking out a loan from the life insurance company. You will be charged a “cash surrender” fee of up to $750 dollars, and will have to pay interest on the money you have withdrawn until the loan is paid back. It pretty much works the same as a bank loan or credit card, and some insurance companies charge interest rates near 10 percent.

What if You Don’t Repay the Loan?

If you borrow from your cash value and die before you are able to repay the loan, the amount you borrowed will be subtracted from your death benefit. For example, if you tell your heirs that they will receive $150k from your life insurance policy after you die, but then you borrow $50k from your cash accumulation without ever repaying, your family will receive $100k.

What if You Save the Money?

Figure you’ll sit on your cash value and leave it behind to your heirs? We wish that could be the case. Unfortunately, cash value does not act as additional death benefit. If you die before you withdraw the cash value in your policy, your insurance company keeps the money. At this point, you’re probably wondering where the “value” is in cash value—our only conceivable answer is that it serves as a loan source at best.

Management Fees in Non-Guaranteed Universal Life Insurance

Aside from the investment risk, one of the biggest issues we have with non-guaranteed life insurance is that it has so many bells and whistles that cost you money.

If you own a universal life policy or are considering buying one, take a closer look at the fine print, and you’ll likely see some combination of:

  • Annual investment fee
  • Management investment fee
  • Administrative fee
  • Money management fee

If your investment does perform well—it probably won’t, and we’ll explain why shortly—the many fees associated with universal life insurance can make a dent in your cash value

Your Cost of Insurance is Rising with Every Birthday

Traditional universal life insurance policies adjust the cost of insurance (COI) each year you age, because your mortality risk increases every year you get older. This means your policy needs a growing surplus of money to account for the increased cost. If your investment component does not perform well, there is a very real likelihood that the COI could eat at your cash value until it reaches zero. At this point, you would either have to pay thousands of dollars to replenish the cash value and keep your policy, or allow the policy to lapse and risk not being able to qualify for a new policy.

Real-Life Example

One of the worst situations we’ve experienced is that of an older man who had bought a policy through an agent many years back. His cash accumulation dried up completely before he became aware of what was happening. To retain his life insurance, he was required to pay the cost of his policy, plus the mortality risk charge, plus his base premium—all out of pocket and with no warning. To make matters worse, he had a major health issue and simply could no longer qualify for new life insurance. At a time when life insurance was more important than ever, the man had no means of protecting his family from potential financial hardship after he dies outside of a “final expense” policy to cover burial costs.

The Heyday Has Passed

When you combine hefty management fees with the rising COI, you have danger. Add in the current state of interest rates and you have a disaster in the making for universal life policyholders.

When universal life insurance was first introduced to the market in 1978, Treasury yields were at the brink of an all-time high. In fact, by 1982, the 10-year Treasury yields were hovering at 15 percent. The 1980s marked the golden era of universal life insurance. Everyone was buying a UL policy, because the rate of return was so high.

Fast-forward to 2016, and the owners of these policies are wondering what in the world their agents sold them.

WSJ’s “Draining Away” piece explains:

“The problem for people holding such policies now is that many agents said in their sales pitches that interest on the cash account could subsidize rising insurance costs as policyholders aged. That let policyholders pay a smaller premium than they would have paid on a whole-life policy.

Since then, though, interest rates have plunged. In the late 1990s, many universal-life accounts paid interest rates of 7% to 8% a year, says Jeremy Kisner, a certified financial planner at SureVest Capital Management in Phoenix. Now that rates are at multi-decade lows, the savings portions of old policies are rising much more slowly than the agents suggested…

If rates don’t rise soon, policyholders will have to cough up more money to cover fees—typically 20 to 60 days after the savings balance runs dry.”

Why You Should Keep Your Investments and Life Insurance Separate

Most financial experts will tell you to use life insurance strictly to protect your family rather than trying to make it double as an investment. Not only will you avoid the potential headache down the road, stripping the extraneous fees and buying a purely protective policy usually creates notable savings that can be invested elsewhere.

A recent article on Forbes gave a great real-life example in comparing a 401(k) to universal life. The client had an option of purchasing a traditional universal life insurance policy at an annual rate of $8,700 vs. purchasing a 30-year term life policy for $700 a year and investing the difference into a 401(k).

The universal life insurance policy and 401(k) both assumed a growth rate of 8 percent. It is also important to note that in the current market, a universal life insurance policy rarely yields a rate higher than 3 percent, because the current Treasury rates are less than 2 percent. Nonetheless, we assume the traditional universal life insurance policy performed at an annual rate of 8 percent, and in 30 years, the client could expect to have a cash value of approximately $600,000.

Using the same scenario listed above, if the client purchased the 30-year term policy and invested the difference into a 401(k), the approximate cash value (assuming the same rate of growth of 8 percent), would have been $980,000. That’s 39 percent more money for retirement expenses. Even if you dramatically lower the interest rates for the 401(k) and the universal life insurance policy, the 401(k) is always the better option.

A New Trend in Permanent Life Insurance

For those who prefer permanent coverage, we often recommend a product called guaranteed universal life insurance. It’s the more consumer-friendly counterpart to non-guaranteed universal life, functioning like a term policy that allows you to lock in coverage up to a set age well into your 80s, 90s, or even 100s if you want to be absolutely sure you will not outlive your coverage. GUL has no investment component, so you know exactly what you’re getting and what you’re paying.

If you currently own a universal life insurance policy and are alarmed by what you’ve read in this article, we encourage you to check out our side-by-side comparison between non-guaranteed and guaranteed universal life insurance, and then give us a call so we can help you avoid the crisis WSJ is warning of.

As independent agents, we are able to sell all types of life insurance—including the previously mentioned term life insurance and non-guaranteed universal life insurance—from 40+ top insurance carriers. With JRC, you will not be rushed or pressured to buy a given policy. Our sole purpose is to help people find the right insurance at an affordable rate. Call us today at 855-247-9555, or request a free life insurance quote online using the button below.

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Cliff Pendell

VP of Marketing at JRC Insurance Group
Cliff is a licensed life insurance agent and one of the owners of JRC Insurance Group. He has helped thousands of families of businesses with their life insurance needs since 2012 and specializes with applicants who are less than perfect health. In his spare time he enjoys spending time with family, traveling, and the great outdoors.
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