What to watch for when evaluating Universal Life insurance policies?
Universal life insurance has become widely accepted in the 1990s. Actually, it became the #1 life product for most insurance companies. For the insurers and agents/brokers the main attraction, of course, is the increased amount of assets under management that can be achieved with UL. Because of the real advantages and the strong incentives, UL became perhaps even oversold, that is applied indiscriminately. With a few exceptions, UL makes sense only if the client
It works best for people who can put more than the minimum required amounts into the policy. For people who can pay a big lump sum of money upfront, or high contributions in the first few years, the tax deference provided by UL can really be impressive. With lower income tax rates and lower capital gain inclusion rates recently, the tax-advantaged nature of UL has lost some of its lustre, ... but not much, especially for relatively conservative investors in the highest tax bracket.
Understandably, there is fierce competition among insurers who offer UL (and almost all of them already have one or more kinds of UL policy today). Since the product is somewhat complex, computer-generated illustrations play a very important role in demonstrating the features and advantages of UL products. A key issue in this regard is what kind of costs and assumptions are built into these various illustrations. Not well-trained or careless users might assume that if the same premiums and the same investment returns are plugged into some illustration software, then the output will show the exact ranking of those policies illustrated, according to various criteria. Unfortunately, reality is a bit more complicated. It is not just that it might be incorrect to assume identical long term returns from investments offered in the various UL policies. The costs of maintaining these policies differ (Click here to see the cost comparison of two popular policies under a range of varying circumstances), and these differences affect financial results differently at various times, at various levels of funding, or with various investment returns. Even more important, bonus structures (that are important factors in the investment performance of any of these policies) do differ significantly, making mechanical comparison of UL illustrations unacceptable. In some cases, bonuses are conditional, linked to funding level or (even riskier, since it is uncontrollable by clients) to investment performance year by year. Even actual crediting rates, when allegedly following the same indexes, differ among companies, ... but it is not obvious at all for the first glance.
A general rule is: Don't base your decision only on a good looking printout. When comparing illustrations for various UL policies, the reality of assumptions the illustration is based on should be examined, keeping these points in mind:
To get a meaningful evaluation of the merits and competitiveness of a policy, one has to know many details and to 'play' with a few illustrations: try various levels of returns, possibly with the simulation of real life fluctuations, that is when returns go up and down year by year, and at various funding levels. Unfortunately, not all the available software can illustrate policies with fluctuating returns, but the tendency is clearly towards the ability to show a range of possible outcomes (with perhaps even some probabilities attached to each of them), instead of 'quasi-promising' results.
In addition to the monetary (cost, cash value, and amount of death benefit) considerations, one has to pay special attention to the availability of special features of universal life policies. There is a wide range of them, and while Person A may be interested in Feature 1, Person B may be interested in Feature 2. Without giving further details here, I offer a list of features that should be sought and scrutinized. Of course, no policy is ahead of all the others judged on the criteria of availability / quality of each of these features. Even if we found a particular policy as the most attractive for one situation, that fact alone gives only hints, at most, regarding what might be the best choice for a different situation. Therefore, the list below indicates the variability of UL, and, again, the importance of shopping around:
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