Protect What Matters
Indexed Universal Life Doomed for Failure Part 6
After the failure of the Universal Life (UL) and the Variable Universal Life (VUL), the UL geniuses go back to the drawing board and come up with yet another UL product. They call it Index Universal Life (IUL). What changes did they make this time? Well, they changed the crediting method again. This time, instead of investing in bonds like in the UL, and instead of investing in the stock market like the VUL, the investments are done by buying options on an index of the stock market. When it is presented, it sounds like a really good product. You participate when the market goes up, but you don’t participate when the market goes down. In other words, when the market goes up, you make money; but when the market goes down, you don’t make any money BUT…you don’t lose any money either. So, what you can expect with an IUL is to see your cash value grow when the market performs well, and when it doesn’t, you just sit pretty and wait for it to perform good again, and see your cash value continue to grow. How good is that? Pretty good uh?
Based on the description of this product, it seems that this product would take care of the disaster caused by the Universal Life and the Variable Universal Life. Or does it? What could go wrong this time. Here it is:
It is still based on the old UL model. It is still annual renewable term insurance wrapped in a side account that must get exceptional returns to survive. Again, just like with the VUL, in the IUL only the crediting method is changed; it is still the same flawed model.
A stand-alone term insurance has really become nothing more than a commodity. You can search google for the least expensive company offering term insurance, and you can buy it online without talking to an agent. There really is no benefit in paying more for term insurance other than your choosing a reputable company that has a solid history of paying out death claims. Most folks that purchase term insurance drop it long before they die; so it’s a huge money maker for life insurance companies. If you were to put the cost of term insurance in graph, it would look something like this:
Life Insurance Types
Notice that in your younger years it is really affordable, and as you age it becomes really unaffordable. Why is it structured that way? Well, insurance companies are in the business of making money. They make money by collecting premiums and not having to pay a death benefit. Insurance companies know that, statistically, most people don’t die young. So, insurance carriers price the insurance really low for young people, to entice them to buy it. However, again statistically, most people die of old age; That is why it is more expensive during your older years; because you have a greater chance of dying and the insurance company will then have to pay a death benefit. Insurance companies do not like paying death benefits; it cuts into their bottom line. They do like, however, collecting premiums.
If you owned an insurance company, you would love it for people to buy your insurance policies when they are young, and are not likely to die. This allows you to collect insurance premiums from thousands of people for a very long time. At the same time, you would want those same people to drop their insurance policies in the later years, when they are likely to die. This way, you collect premiums, but you don’t pay any death benefits. That’s a smart strategy, right? At least for insurance companies it is.
Universal Life, Variable Universal Life, and Index Universal Life are all built on the same model. The cost of the term insurance looks similar to the term insurance in the graph. Nevertheless, the term insurance inside a UL,VUL,IUL policy is not the cheap term insurance you see advertised online or on television. It actually is very expensive term insurance. Compare side by side on a graph, this is how it would look (the red line represents the term insurance inside a UL/VUL/IUL):
Whole life is really the only different creature in the industry. Its premium and its cash value is both wrapped into one. This is how whole life would look on a graph (whole life is represented by the green line):
Notice how the premium stays constant throughout. Also, notice how at the beginning, it is more expensive than level term (blue line) and annual renewable term (red line). However, when you are older and you are most likely to die, the premium remains affordable. Whole life is designed to last your whole life. Another important point to discuss is ownership.
Did you know that somewhere in your later years, around 65-70, you can own your whole life policy? Yes, that’s right, OWN IT! That means that the premiums will disappear and you will not have to make any more payments. The graph would look like this:
Even though you stop making payments, the cash value continues to grow and compound. You can even start taking tax free income, if handled properly. This is a huge benefit during your retirement years. Now, you may not want to pay off your insurance policy too soon. You may want to continue to pay premiums into it. Why? Because it becomes a great place to store your safe money. Since the cost of the insurance never rises, the more premium you put in, the more the cash value rises, the more efficient it becomes as a wealth building vehicle. Many people continue to fund their whole life insurance policies for as long as they can, even transferring other assets into it. It also becomes a good tool for state planning.
Let’s get back to our IUL. Will the IUL be strike three? The UL was strike one, the VUL was strike two. Will this be strike three? Or will it be able to sustain its projected growth to offset the ever-increasing cost of insurance each year? Recall that projections may look great theoretically, but if they are not achieved then what you have is a financial disaster. Even if the results are off just by a little bit, the results can be horrible. Look at it this way; UL projections were around 9%, at 6% the UL collapsed. VUL were at 12%, but collapsed at 9%. The IUL has average projections of 7%. Will it collapse at 5%? We can only guess but consider this:
The firs IULs were written in 1997. Most of those early policies are already underwater, underperforming, or have already lapsed. You be the judge!
Are you willing to be the guinea pig or the lab rat that takes it for a test drive? We will keep dismembering the IUL and you will decide for yourself if this will or will not be strike three. I believe you will enjoy the ride and the education that you will get out of it. It will empower you to make wise financial decisions.
Let’s move on.