When stocks do well, it becomes easier for life insurance companies to sell “permanent life” products that grow in value with the market.
Unlike term life policies, which only pay when the insured person dies within a specified period, permanent life policies are not restricted to a specific period and accrue cash value.
Two of the more popular versions of this insurance are “variable universal life” and “indexed universal life” policies.
Variable universal life (VUL) policies generally offer people multiple investment options. Salespersons will point out that when the stock market does well, the returns on investments will be better than returns available from traditional whole life policies.
VUL offers premium and death benefit flexibility, and allows you to withdraw money or borrow from the policy. VUL also gives you more control over the cash value portion of your policy than other insurance options. VUL is more expensive than other types of permanent life insurance. You are responsible for managing the investment accounts.
Indexed universal life (EIUL) policies also provide flexible premiums and cash values. Investors benefit from increases in the stock market. In contrast to a VUL policy, the insurance company makes the investment decisions. However, potential gains would be lesser, because of limits specified in the policy. But you are provided more protection in the case of poor stock market performance.
So, VUL is a better choice if you can afford the risk, are willing to manage your portfolio, and are looking for the maximum gain associated with increases in the stock market.
If you want to take advantage of increases in the stock market while protecting yourself against potential stock market losses, then EIULs would be a better choice between the two alternatives.
The advantage of purchasing these types of insurance (compared to traditional whole life policies or term insurance) is potential long-term inflation protection. You should only consider this potential advantage from a long-term perspective because sales commissions are front-loaded, so you will not receive cash values in the short term because of surrender charges. In addition to surrender charges, there are considerable annual costs associated with these policies. You should only consider buying these types of policies if you have taken advantage of all the tax-deferred retirement vehicles available to you, such as IRAs, Roth IRAs, 401(k)s and so forth.
If you want to invest in the stock market, you would be better off in low-cost diversified index funds, exchange-traded funds (ETFs) or target date funds. The costs are very low compared to insurance products. For example, the annual cost of investing in Vanguard’s Total Stock Market Index fund is 0.05 percent; the average annual cost of Vanguard’s ETFs is 0.14 percent; the cost of investing in Vanguard’s target date funds is 0.16 percent.
VULs and EIULs don’t promise portfolio performance better than index funds or index ETFs, and the associated costs are much higher.
For most people, it’s better to consider renewable term insurance, especially if you are young. You will then be able to invest the premium difference in low-cost diversified index funds, ETFs or target funds. Your costs will be much lower, and you will have immediate access to your investments, rather than having to wait years for cash value from an insurance policy. I have followed this approach, and have been able to obtain excellent long-term returns in the stock and bond market with very low costs.
If you do want to pursue a VUL or EIUL, an expert in analyzing insurance policies is James Hunt, an insurance specialist with the Consumer Federation of America. He recommends buying insurance directly from TIAA-CREF or Ameritas Life Insurance Corp. Sales commissions are significantly lower through these sources. For a nominal charge, Hunt’s organization will analyze any proposed policy. (Go online to www.evaluatelifeinsurance.org for more information.)
Elliot Raphaelson may be contacted at email@example.com.