Indexed Universal Life (IUL) | Updated for 2023
IUL policies offer permanent life insurance protection with the ability to earn interest based on stock market indices like the S&P 500, Dow Jones, and NASDAQ. Companies now have proprietary indexes such as Fidelity, Bloomberg, Barclays, and PIPPCO. IUL policies do not lose account value due to an adverse market return year, which makes for a conservative way to add an additional layer to your retirement savings strategy.
The cash value inside your policy can be used for financing purchases you would normally need, such as bank financing, college tuition for the kids, and most importantly, creating a tax-free retirement income stream.
You can access your cash at any time during the length of the policy on a tax-deferred and tax-favored basis.
Here’s a brief IUL video explanation:
IUL was first offered in 1997 by Transamerica and has seen tremendous growth over the last 26 years. Today, more than 40 companies are offering these types of policies, and more joining the mix each year.
How Popular Are IUL Policies?
According to the Life Insurance Marketing and Research Association (LIMRA), this life insurance category has been continually growing in popularity for many years.
In fact, indexed universal life insurance has been the fastest-growing product of the individual life insurance market over the last few years; IUL premiums jumped more than 25% in 2023.
Our IUL policyholders say they chose to purchase not only for the death benefit but also as a way to create a tax-free retirement income cash flow.
When structured properly as an accumulation vehicle, you would want to contribute the maximum premium possible while keeping the death benefit to a minimum. This keeps your policy expenses lower and more premium going into your cash value account.
The difference between IUL and other permanent life insurance policies is how interest is credited to the policy. Interest is linked to the movement of a selected stock market index over a specific period of time, usually 1 year, but some policies offer 2 and 5 year periods.
Even if the index goes down, your credited interest rate will never be negative, which is guaranteed. So your worst-case return for a year could be 0%.
For example, let’s assume you choose the S&P 500 index with a 9% cap within your policy. The day your premium is paid, we’ll use January 1; the S&P is trading at 4000. The insurance company tracks the S&P index from January 1 through December 31.
Whatever the S&P index is trading at on December 31 is the ending value at which your index credit is calculated. If the S&P index is trading below 4000, then the policy will receive 0% interest for that policy year. However, let’s assume that on December 31, the S&P is trading at 4400.
That is a 10% increase in the S&P index, and because of the cap, your policy would receive an interest credit of 9%. That sounds great, but also remember that there is a feature called the annual reset. This makes a great design even better.
IUL Annual Reset
Annual reset means that each year’s interest credits are locked in on the Index Crediting Date, and a new starting point is determined.
The interest credits can’t be taken away due to negative index performance. They will participate in future growth, giving your policy the advantage of compounding interest in future years.
In the example above, let’s assume that the S&P index is trading at 3600 on December 31. That is 400 points lower than where we started on January 1. Instead of losing 10% from your account, you lose 0%, and your new starting value on January 1 is now 3600.
This is the beauty of the annual reset. You do not have to wait until the S&P value is above 4000 to share in any gains. Now in one year, on December 31, the value of the S&P is measured, and interest credits are calculated again.
This protection from loss is a great way to keep peace of mind while growing your assets. The protection that an IUL offers from negative return years is a key reason IULs are so popular.
IUL Caps Explained
The gain in an IUL policy is determined by the allocation that the policy owner selects. These allocations can be as common as the S&P 500, Dow Jones, and NASDAQ. Today we see these caps in the 9% range.
As recently as 4 years ago, caps were readily available in the 15% range. Caps have lowered because the cost to participate in the main 3 indexes has increased.
New allocation options are coming out all the time by companies offering IUL policies. The new allocations are proprietary to the companies and cut down on expenses. This allows for higher caps and better possible returns. Three of the newer options are:
- Fidelity Multifactor Yield Index (North American)
- Bloomberg US Dynamic Balance II ER (Allianz)
- PIMCO Tactical Balanced ER Index (Allianz)
Companies can offer higher caps with proprietary allocations because they manage these indexes in-house. Some are even uncapped!
A good example is if you had an Allianz policy and chose the Bloomberg US Dynamic Balanced Index, you would have no cap and a 140% participation rate. If the Bloomberg index grows 10%, you will see a gain of 14%.
Quick IUL Facts
- Interest is credited to the policy’s index account value based on the performance of the index chosen and will never be less than zero percent.
- Premiums are not directly invested in any stocks, bonds, or equity investments.
- Index performance does not include dividends on the stocks that make up each index.
Ways To Access IUL Cash Value
You may access your cash value through withdrawals or loans.
Withdrawals – when you withdraw from your policy, you will permanently reduce its cash value. The withdrawal will generally be income-tax-free up to the amount of premiums that you have paid into the policy. You may also face surrender charges on the amount that you withdraw.
Loans – taking loans can be a huge advantage to accessing your cash value, and they don’t even need to be repaid. Like taking a home equity loan against your house – loans from your IUL cash value are not taxable. There are generally 2 types of loans; standard and variable loans. The most commonly used is the variable loan.
IUL Overloan Protection
One very important feature in some IULs is the overloan protection benefit.. Your policy death benefit remains in force when extensive loans have been taken if the overloan protection benefit has been elected.
This benefit may help you avoid tax consequences of a policy lapse due to excessive loans or withdrawals. This is useful if you plan to use your policy as an income supplement vehicle.
IUL Premiums Are Flexible
The Indexed Universal life insurance policy premium is flexible. This means that the insured can increase or decrease the premium to the policy as finances change. They may even stop paying premiums for a while if needed. But remember, the more premium paid into the policy, the better the performance.
Indexed Universal Life insurance is often called living insurance.
What about IUL Living Benefits?
A unique feature of IUL is that it includes living benefits. Living benefits are for chronic illness, critical illness, and terminal illness. That means it will pay you tax-free cash benefits as the policyholder even before you die.
Chronic illness is coverage you can compare to long-term care insurance.
Critical illness coverage is for conditions such as heart attack, cancer, and strokes. It typically pays the policyholder around $50,000 per incident.
Terminal illness coverage is for circumstances where your physician certifies that you have less than 2 years to live. At this point, the policy will typically pay out 90% of the death benefit to the policyholder.
What Are IUL Lifetime Guarantees?
Thus far, we’ve looked at IUL mostly for cash accumulation and not death benefit guarantees. Since we recommend funding these policies to the maximum limits, the guarantee is not that important. We create a huge cash bucket using very little life insurance death benefit.
On the other hand, some people want that lifetime guarantee regardless of the cost. Many companies do offer lifetime guaranteed indexed universal life policies.
Most of these policies can be over-funded, but a guaranteed policy also has a minimum premium that, if paid, guarantees it won’t lapse until age 120.
These policies still offer indexing options that can help to grow your cash value for the same needs. They also have the same accelerated benefits.
Withdrawals and loans are available on these policies and may be used in any way you see fit. Very little about the policies are different, but the cost to provide the lifetime guarantee can cause your policy to underperform compared to the non-guaranteed policies.
Conclusion
The thinking behind traditional life insurance purchases is usually how to help your family pay the mortgage and other expenses when you die. IULs are often chosen with a focus on retirement income. What retirement lifestyle do you imagine? It’s easy to underestimate the cost of your ideal retirement.
Indexed universal life insurance can help bridge the gap between what you have already saved and what you will need in the future.
IUL insurance can be a twofold strategy as part of your financial plan:
Death benefit protection during working years.
Lifetime Tax-Free Income during retirement.
Optimal structuring of an IUL is best done with an experienced advisor. InsuranceQuotes2day can help.
You can start the process by using the IUL Calculator on this page or calling us at 1-800-712-8519.
Frequently Asked Questions about Indexed Universial Life Insurance
Indexed Universal Life insurance combines the permanent coverage of traditional life insurance with the opportunity to earn interest based on the performance of a stock market index. Unlike other policies, IUL offers a unique blend of death benefit protection and the potential for cash value growth, with features like:
- A 0% floor to protect against market downturns
- Flexible premium (ability to increase, decrease, or stop paying premiums)
- Ability to receive tax-free income from the policy
Yes, an advantage of IUL policies is the accessibility of cash value. You can withdraw or borrow against the cash value of your policy. Withdrawals are typically tax-free up to the amount of premiums paid and will reduce the policy’s cash value and death benefit. Policy loans, on the other hand, can be taken without needing to be repaid, although unpaid loans will reduce the death benefit.
An IUL policy can be a powerful tool for retirement planning. It not only provides a death benefit but also accumulates cash value that can be used as a tax-free income stream during retirement. The flexibility in premium payments and the potential for tax-free growth make IUL a versatile choice for supplementing retirement income.
The annual reset feature in IUL policies locks in interest credits each year, setting a new starting point for index tracking. This means that even if the index performs negatively in a subsequent year, the interest credits already earned are not lost. This feature allows policyholders to benefit from compounding interest over time and protects against market volatility.
Most IUL policies have an added feature that provides living benefits. This allows the policyowner to receive a large portion of the death benefit in advance if they are diagnosed with a chronic, critical, or terminal illness. Some companies will also pay out benefits for long-term care expenses.
Since IUL is life insurance rather than an IRS-controlled investment product, there are no restrictions on how much you can contribute to your policy each year.
