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Indexed universal life (IUL) insurance is a type of permanent life insurance that combines a death benefit with a cash value component, offering policyholders the opportunity to grow their savings with a level of risk tied to a market index. IUL policies are inherently complex, providing flexibility in premium payments and the potential for adjusting death benefits to align with evolving life circumstances. Bankrate's insurance editorial team is dedicated to helping you make informed financial decisions. This guide will explain the essentials of indexed universal life insurance to help you determine if it's the right choice for your needs.
Indexed universal life insurance is a type of permanent life insurance that has both a death benefit and a cash value element. The cash value grows based on the performance of a selected market index, such as the S&P 500 or Nasdaq Composite.
With each premium payment you make it's essentially divided into two parts. One portion goes toward maintaining the death benefit, which provides financial protection to your beneficiaries. The other portion is allocated to the cash value element, which can earn interest based on the linked index. It's important to note that, depending on your premium payment structure and the age of your policy, how much is allocated to maintain the policy and how much goes to the cash value can vary.
While the interest rate is influenced by market performance, IUL policies typically include a minimum guaranteed crediting rate to protect against market downturns. While this is a nice benefit, IULs also have a cap on the maximum returns you can earn.
Permanent life insurance policies like IUL are designed to provide lifetime coverage, although the maximum coverage age range is 95 to 121, depending on the policy, as long as premiums are paid. As the cash value builds, you can borrow against it, but unpaid loans will reduce the death benefit. You can also withdraw from it without being required to pay it back, but this also reduces the death benefit.
The flexibility of IUL policies allows for adjustments in premium payments and death benefits, depending on the accumulated cash value, offering adaptable financial planning options. We'll investigate these features more below.
IUL policies offer flexibility and the potential for growth through market-linked returns. They provide lifelong coverage, assuming premiums are paid, and have a cash value component that grows based on an index, such as the S&P 500. Understanding how IUL policies work can help you decide if this type of insurance fits your financial goals.
The cash value component of an IUL policy is a significant feature that differentiates it from other life insurance types. The policy's cash value grows based on the performance of a selected market index. However, IUL policies typically include a "cap", "floor" and participation rate.
Once your IUL policy has accumulated sufficient cash value, you can access these funds through loans or withdrawals:
Regarding both withdrawals and loans, if the cash value drops too low -- meaning it's inadequate to cover the policy's expense and mortality charges -- the policy can lapse and terminate. Should you choose to make withdrawals or take out loans against an IUL, it's crucial to monitor your policy's performance.
A convenient feature of IUL policies is that they offer flexibility in premium payments, allowing you to adjust them based on your financial situation:
IUL policies also provide flexibility in how the death benefit is structured:
Indexed universal life insurance policies offer a mix of benefits and drawbacks that can influence your decision on whether they are the right fit for your financial goals. Here's a breakdown to help you weigh these pros and cons.
The cost of indexed universal life insurance varies depending on several factors, including personal details and policy specifics. Understanding these elements can help you gauge what to expect when considering this type of life insurance. Here are several factors to keep in mind and how they might influence what an IUL policy could cost you.
As you can see, the cost of an IUL can be an ever-moving target. To better understand all these nuances, it can be helpful to talk with a licensed agent or utilize an IUL calculator to help narrow down your specific costs.
IULs might be a suitable option for individuals who are comfortable with a certain level of risk but not willing to take on the full investment risk associated with variable universal life policies. IUL policies typically provide some guarantees, making them appealing to those seeking a balance between potential growth and security. This type of policy could be ideal for people who desire flexibility in their insurance policy, allowing for adjustments in premium payments and death benefits as their life circumstances change.
However, it's important to note that policyholders should be willing to monitor their policy closely to ensure it does not lapse due to low cash values. Although IULs have a cash value component, it is important to remember that life insurance should not be viewed as a replacement for retirement plans such as 401(k)s or IRAs.
Indexed universal life insurance is not for everyone. The insurance market offers a variety of life insurance policies. Depending on your individual case, one of the following types of life insurance may be able to better meet your needs and budget.
Term life insurance covers the insured for a specified period, typically 10 to 30 years. While term life policies feature a death benefit, they do not build a cash value. Many term life policies are renewable, which enables policyholders to extend their coverage for another term, usually at a higher rate due to their increased age. Most term life policies do not return any of the premiums when the coverage ends and only offer coverage up to a certain age, usually around 80. Typically, term life insurance is the cheapest coverage, especially for people who purchase a policy when they are young and healthy.
Whole life insurance is a type of permanent life insurance that typically features fixed premiums and a level death benefit. Like IUL coverage, whole life insurance policies build a cash value component that you can borrow against. While whole life policies offer lifetime coverage, it's important to note that most policies end coverage at a specified age, typically ranging from 95 to 121, depending on the policy terms. This ensures that you can remain protected for your entire life, provided you continue to pay the premiums.
Variable life insurance, a type of permanent life coverage, features a death benefit and cash value element. Variable life policies put the insured in the investment driver's seat, allowing them to choose the type of investments they prefer, which may include mutual funds and exchange-traded funds. While variable life policies offer more flexible investing than IULs, they can pose more risk. If investments do not perform well, the policy's cash value and death benefit can decrease.
Universal life insurance works the same way as IULs, except it builds a cash value based on a rate of interest declared by the insurer instead of a market index. This type of permanent life insurance also allows policyholders to adjust their death benefits and premiums.
Variable universal life insurance, a form of permanent life coverage, combines the features of variable and universal life policies. This type of policy enables you to invest your savings as you choose and allows you to alter your premiums.
While indexed universal life insurance is a unique type of life insurance, it should not be viewed as a retirement savings vehicle. While it offers flexibility and potential growth through its cash value component, it is essential to remember that its primary purpose is to provide a death benefit and financial protection for your beneficiaries.