During the 1980s, when interest rates were high and universal life insurance had just burst onto the market, many people bought non-guaranteed universal life insurance policies assuming they would later reap a high return on their investment. In 2016, those consumers are subject to what Forbes calls a looming retirement disaster for universal life policyholders.
True to its name, non-guaranteed universal life insurance has proven to be an inherently risky investment with no guarantees. Worse yet, the risks often go unnoticed, making it a silent killer of the very financial protection people seek in buying it.
We’re not trying to scare you, but as your friend in the insurance industry, we simply have to ask those with universal life insurance: have you checked your policy lately? If not, we recommend doing so immediately.
Here’s a guide to help you understand how universal life insurance works, how it can go wrong, and how to avoid the common horror story that so many non-guaranteed universal life policyholders come to us with.
Quick Article Guide:
Life insurance can be confusing to the average consumer. Oftentimes, people buy a policy simply because it seems fine, and they want the task of finding life insurance to be done with. So, let’s start with a quick refresher on universal life insurance.
Universal life policies are a form of permanent life insurance designed to provide coverage for your entire life. Universal life is generally more flexible than its permanent life counterpart, whole life insurance, and can be customized to provide coverage to the age of your choice: 90, 95, 100, 105, 110, or even 121.
Most universal life policies come with a “cash value” or cash accumulation account. In theory, this savings mechanism accrues interest, and you can borrow against your cash value.
Cash accumulation is frequently mistaken to be a growing money tree. Remember, if your universal life insurance policy is non-guaranteed, it means your cash accumulation is non-guaranteed. Your life insurance is functioning as an investment with a market risk. Furthermore:
- The cash value is not a death benefit and is not paid to your family upon your death. If you do not withdraw the money in your cash accumulation account, the insurance company keeps it.
- If you do withdraw money from the cash accumulation account, you are essentially taking out a loan that you will have to pay back (with interest, and a surrender fee of up to $750).
- If you still have an outstanding loan balance when you die, the amount of the loan is subtracted from the payout that your loved ones will receive.
As you might extrapolate from these points, the money in a life insurance cash accumulation account is not really yours in any form.
We recently received a call from a woman who was very distraught about a policy she had taken out on her mother about 10 years ago, when the mother was 72 years old. It was a traditional “current assumption” universal life (UL) policy with a (supposed) cash value in addition to the death benefit.
The policy has a $1 million death benefit, and the agent who sold it to the woman and her siblings assured them that the policy would last the mother’s lifetime. What the agent didn’t tell them was that the premiums would likely increase each year the mother ages.
Fast-forward to today, and the woman and her siblings have paid close to $250,000 in premiums with nothing to show. There is no cash value because the cost of insurance is too high. Their mother is now 82 years old and still very healthy. Unless she passes away in the next five years, they will likely have to let the policy go and forfeit all the premiums they’ve paid.
When you first buy a non-guaranteed policy, your cost of insurance is relatively low and predictable. Much of your premium is being credited to your investment. The problem is that every year as you age, your cost of insurance goes up, and the balance begins to shift. Meanwhile, your premium stays the same, so you’re paying more and more for your insurance without realizing it.
Eventually, your cash value dries up, and the insurance company sends you an ominous letter saying your policy is in danger of lapsing if you don’t pay a certain amount to replenish your investment—often 2, 3, or even 5 times what your premiums were previously.
In worst-case scenarios, someone who is in relatively poor health with no cash value can be left without the resources to pay their premium and without options to buy a more affordable policy.
Universal life insurance breaks into two different categories: non-guaranteed universal life and guaranteed universal life. They are similar in many ways but dramatically different in a pivotal way.
Non-Guaranteed Universal Life Insurance is an investment. You are buying coverage for life and a guaranteed death benefit but with an additional investment component that is—just like the name implies—non-guaranteed.
To elaborate a little on the past and present of non-guaranteed universal life, millions of people jumped on what was seemingly a no-brainer back in the 15% interest days of the ‘80s. With current interest rates hovering around 3%, the vast majority of these policies are now underfunded. When a policy is underfunded, it means that the insured must pay additional money in order to keep the coverage.
This is why so many people who bought a non-guaranteed universal life policy 30 years ago are struggling to afford their coverage today. It’s also why there is little justification for buying a non-guaranteed policy today with interest rates as low as they are.
Types of non-guaranteed policies to be wary of include indexed universal life insurance (IUL), a hot product pegged to a stock market index, and variable universal life insurance (VUL), which has sub-accounts that function similarly to mutual funds with additional exposure to stocks and bonds.
Guaranteed Universal Life Insurance (GUL), on the other hand, offers guaranteed rates and coverage with no cash value. You only pay for the protection you need.
Guaranteed universal life insurance generally costs less than its permanent life counterparts because it requires a medical exam, which allows the insurance company to better gauge the risk they are taking if they insure you. GUL is similar to term life insurance, except that it offers coverage up to a specific age rather than a set number of years.
Because of their longevity and likelihood of payout, GUL policies are ideal for:
- Pension maximization
- Estate planning
- Leaving an inheritance with life insurance
- Final expenses and burial costs
Let’s go back to the example of the woman and her siblings who bought a non-guaranteed policy for their mother, only to find their combined $250,000 spent on premiums rendered virtually meaningless in the long run.
Had their agent offered them a guaranteed rather than non-guaranteed universal life insurance, the family could have avoided their impending financial hardship. They could have locked in a fixed rate for their mother’s entire lifetime to ensure they would receive the death proceeds no matter what age she passed. Instead, they have to struggle with affording the steep premium increases every year and wonder if their investment will ever net them a return.
This is the gamble everyone who buys a cash accumulating universal life policy will face at some point as they age and premiums become unaffordable due to a depleted cash accumulation account.
Why are we such strong proponents of guaranteed universal life insurance?
- Your cost of insurance will not change, even as you age.
- Your coverage is not tied to an investment.
- You aren’t pouring extra money into the investment component of your policy. If you’re truly looking to invest, the smart thing to do is to buy a GUL and invest any money you save elsewhere, separately from your life insurance.
- You will pay less up front, as the cash value in a non-guaranteed policy increases the overall cost by up to 3 or 4 times that of a comparable GUL policy.
- Most importantly, you will never lose your coverage unexpectedly.
If you already own a non-guaranteed universal life policy, your agent should be reviewing your policy with you annually so that you can measure the financial viability and trajectory of your life insurance while you still have options. If you are looking to buy a universal life policy, it’s best to have an independent agent help you shop multiple carriers.
JRC Insurance Group will gladly review your current life insurance policy and/or shop for coverage on your behalf. Give us a call at 855-247-9555 to speak with one of our friendly agents, or request a free quote online here. We have relationships with 40+ top-rated carriers, meaning we have no reason to sell you on a specific product from a specific company. We’re here simply to find the coverage that’s right for you.
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