But the policy can also increase in value during your lifetime through a cash value component. The cash value portion of your policy earns interest based on the performance of an underlying stock market index.
As the index moves up or down, so does the rate of return on the cash value component of your policy. The insurance company that issues the policy may offer a minimum guaranteed rate of return. There may also be an upper limit or rate cap on returns. IUL insurance is riskier than fixed universal life insurance policies, which offer a guaranteed rate of return. You may be able to borrow against the cash value accrued in an indexed universal life insurance policy, but any loans outstanding when you pass away would be deducted from the death benefit.
These policies leverage call options to gain upside exposure to equity indexes without the risk of losses, while whole life insurance policies and fixed universal life insurance policies provide only a small interest rate that may not even be guaranteed.
Of course, the annual return that you see with an IUL insurance policy will depend on how well its underlying index performs. But your insurance company can still offer a guaranteed minimum return on your investment. Policyholders can decide how much risk they would like to take in the market, adjust death benefit amounts as needed, and choose among a number of riders that make the policy customizable to their needs.
For example, you may choose to add on a long-term care rider to cover nursing home costs if that becomes necessary. Policyholders do not pay capital gains on the increase in cash value over time unless they abandon the policy before it matures, whereas other types of financial accounts may tax capital gains upon withdrawal.
This benefit extends to any loans that you may take from the policy against your cash value. Having a ready source of cash that you can borrow against may be appealing if you want to avoid triggering taxes and penalties with an early withdrawal from a k or IRA. Unlike a k or traditional IRA, there are no required minimum distributions for cash value accumulation in an indexed universal life insurance policy.
Social Security benefits may be an important source of income in retirement. You can begin taking Social Security as early as age 62 or defer benefits up to age Taking benefits ahead of your full retirement age can shrink your benefit amount, as can working while receiving benefits. So you could take a loan against your policy to supplement Social Security benefits without detracting from your benefit amount.
IUL insurance, like other types of life insurance, can provide a death benefit for your loved ones. This money can be used to pay funeral and burial expenses, cover outstanding debts such as a mortgage or co-signed student loans, fund college costs for children, or simply pay for everyday living expenses. This death benefit can be passed on to your beneficiaries tax-free. There are several drawbacks associated with IUL insurance policies that critics are quick to point out.
Aside from that, keep in mind the following other considerations:. In addition, returns on equity indexes are often capped at certain amounts during good years. In that case, you may be better off investing in the market directly or considering a variable universal life insurance policy instead. Whole life insurance policies often include a guaranteed interest rate with predictable premium amounts throughout the life of the policy.
IUL policies, on the other hand, offer returns based on an index and have variable premiums over time. This means that you have to be comfortable riding out fluctuations in returns while also budgeting for potentially higher premiums.
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This site does not include all companies or products available within the market. The compensation we receive from advertisers does not influence the recommendations or advice our editorial team provides in our articles or otherwise impact any of the editorial content on Forbes Advisor. So, what would actually happen to the cash value in your account in a good year?
And what about a bad year? In the decade of the s, was one of the best years: the index rose All in all, you would probably be pretty happy: your cash value grew by about 9.
In this hypothetical example, the growth rate was more than you would typically get with a standard UL policy or even with a whole policy that pays dividends; yet you had no risk of loss. Compared to other forms of UL, an index policy offers the same permanent coverage and premium flexibility features, with the following basic differences based on the cash value growth calculation:.
Indexed universal life insurance vs. Both types of policies provide permanent protection with an investment component that can grow over time, but IUL like other UL policies provides more flexibility to deal with changing circumstances by allowing you the policyholder the option of raising or lowering your premium payments 8.
In addition, an indexed UL policy gives you one or more index-based options that can help your cash value grow faster while still limiting your downside risk. Your cash value can stop growing and, in some cases, if the expenses exceed the cash value growth, even go down, especially if you only make minimum premium payments. This could force you to make higher payments later on, lower the death benefit amount, or forego your coverage altogether. Whole life insurance policies are much simpler in comparison, with level premiums, more cash growth guarantees 9 albeit with less upside potential , and fewer if any investing options.
However, whole life policy premiums tend to be more expensive, especially compared to the minimum amounts in an IUL policy. Term life is the simplest form of life insurance protection: With a typical term policy you pay a set monthly premium for 10, 20, or 30 years, and if you pass away during that term a death benefit is paid to your family. Typically, the only substantial change you can make after your term policy is in effect is to convert it to a whole life policy. By contrast, indexed UL gives you a more flexible — and complex — financial tool with benefits that can last a lifetime.
You get permanent life insurance protection with the freedom to lower your premiums within contract limits to a level that may be comparable to a typical term premium. You get the advantages of cash value with the potential for greater growth compared to other kinds of permanent life along with the assurance of a performance floor that can help reduce risk. IUL like a whole life policy can also provide tax-advantaged estate planning benefits not available with temporary term coverage.
This can be a useful and quite specialized product.
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