Indexed Universal Life Insurance (IUL) | 5 steps to create a tax-free retirement income

Many of our clients today are looking for ways to use indexed universal life (IUL) as a way to build a tax-free income stream during retirement, save for college, or have cash in hand during an emergency. 

So let me dig in and explain some of the advantages and disadvantages of an IUL policy.

According to the Life Insurance and Marketing Research Association (LIMRA), 23% of all life insurance purchased in 2018 has been Indexed universal life.

First off, Warren Buffet said it the best.  He is very good at what he does – no he is the best at what he does.  What would happen if we could all follow Buffet’s rules of investing and never lose money?

How much money would you have saved now?

How much sooner could you retire to enjoy life?

Indexed universal life insurance was created back in 1997 by Transamerica Life Insurance Company. Now there are over 40 companies that offer IUL.  Although this breed of universal life insurance has evolved over the last 20 years, the principal has remained the same.


“Rule No.1 is never lose money. Rule No.2 is never forget Rule No. 1.”

Warren Buffet

Warren Buffett Forbes

I get it.  You aren’t really looking to buy life insurance.  And that is okay.

Maybe you just want to buy term life insurance, that is okay too:

Compare Term Life Rates>>>

If you are interested in learning more about IUL, let me pull back the curtain and introduce you to why you would even consider buying indexed universal life insurance as a retirement savings tool.

No,  you don’t even get a tax deduction for what you pay into the policy!

Let me start off with a question:  Would you rather pay taxes on the seed or the harvest?

What is Indexed universal life insurance?

It is a life insurance policy that provides a lump sum of tax-free cash to your beneficiaries when you die.

Yep, that is harsh.  Just about everyone needs life insurance, we just don’t want to pay for it.  After all, wouldn’t you rather take that summer beach trip or winter ski trip instead of paying a life insurance premium?

 Indexed Universal Life insurance can also provide you with a lifetime of tax-free income at retirement  

This 2 minute video from North American will help you understand:

Indexed universal life insurance (IUL) is considered a permanent life insurance policy.  Permanent as opposed to term life insurance which is temporary. 

IUL is permanent because the policy is meant to stay in force until the day you die and with proper funding, IUL will do just that.  

The premiums you pay into indexed universal life insurance earn interest and grow the cash value of your policy. 

This bucket of cash that grows inside your policy can be used for many things.  Anything really, you choose how the funds are used.  Maybe you are looking to build up a college savings fund for the kids or grandkids, or to finance your major purchases, or RETIRE. 

The cash value in an indexed universal life insurance can be accessed through withdrawals or tax-free loans. 

In my opinion, tax-free loans are what have caused IUL to achieve ROCKSTAR growth.  Imagine getting a paycheck each month at retirement and not having part of it go to Uncle Sam. 

The potential interest on these policies have recently reached around 13% and for the last 5 years have averaged over 10% in the policy that I personally own.    What is even more amazing is that you can’t lose money in your policy if the stock market loses money. 

This policy is not a security and not invested directly in the stock market.

Even though we can enjoy stock market like returns with IUL, our money is not at risk! Remember Buffet’s rule # 1?  Never lose money.

So the worst case return in a year is 0%.  If the index you have chosen in your policy is negative, you get 0% – no return for that policy year.  That is a pretty good deal.  Especially if you look back to 2000 and 2008.

These years were not so good to investors, especially if you were looking to retire soon thereafter.

Indexed universal life insurance = life insurance + higher than average interest credits + income

IUL is still life insurance but most people use it as a vehicle to accumulate cash to later fund retirement with tax-free dollars.

Ready for an example?

Peter is married and works as an attorney and age 35 and wants to retire at 65 like most of us do.  Let’s assume that Peter is willing to fund his indexed universal life insurance policy with $5500 per year (about $450 per month).  This is the same amount that he can put into an IRA or ROTH IRA.

Peter’s $5500 would purchase an IUL policy of around $450,000.  Part of the $5500 premium goes to pay for life insurance and expenses in the policy, the rest goes to the cash value account.

If his money grew at just over 7% per year, he could quit paying premiums at age 65 and start receiving a tax-free income stream of around $50,000 per year for the rest of his life.

What if Peter waits until he is 40?  Just 5 years later and look at the difference.  Peter’s $5500 buys an IUL policy for around $370,000 and his tax-free income at age 65 would only be a little more than $30,000 per year.

Still a great deal but look at the difference in what 5 years can make.

Peter at age 45 – the IUL policy death benefit is around $300,000 and the annual tax-free income at 65 is about $20,000.

My point is – the longer you wait, the less you will have.  Another great thing about indexed universal life insurance is that you are not limited as to what you can contribute like in a 401k,  IRA or ROTH IRA.  Some of our clients are putting in $200 a month and some are putting in over $100,000 per year.

These examples are of policies that we specially design to produce as much income as possible.  I know that at age 35, $5500 per year sounds like a lot to pay for life insurance.

Why does Indexed Universal Life work?

We are buying as little life insurance as possible with the $5500.  Very little of the $5500 annual premium is actually going to purchase life insurance.  Most of your premium is going towards savings.  Remember we get tax-deferred growth on the money that we put in the policy.

So again, what is indexed universal life insurance?  IUL is a life insurance policy that you may design in such a way that maximizes the cash value enough to generate a lifetime tax-free income stream when you are ready to quit working and enjoy life.

Our clients come in all financial shapes and sizes.  Whether you are looking to save $200 per month or $20,000 per month, indexed universal life insurance is something to pay attention to. 

Would you believe we have clients putting $1,000,000 per year into these policies?

Not every type of permanent life insurance policy will allow you to withdraw or take policy loans against the cash value. An indexed universal life (IUL) insurance policy does allow for cash withdrawals and loans but what if any, are the tax ramifications?

The tax treatment of IUL cash value is what makes it such a powerful investment tool.

There are a lot of questions about IUL insurance coverage and cash value.

So just how does an indexed universal life insurance policy work?

This article is going to look at the tax implications of IUL cash value and how you should manage your policy in order to receive biggest bang for your buck.  We will also be showing some real life examples of people just like you and me that have purchased IUL and are now receiving tax-free income.

For an IUL insurance to work properly and provide you with the most tax-free income during retirement you need to do these 3 things:

  1. Structure properly by purchasing the smallest amount of life insurance possible
  2. Fund the policy with the maximum premium but keep it from becoming a (MEC) modified endowment contract
  3. Consistent premium payments until the time you want to start taking income from your policy

What about the pros and cons of an IUL insurance policy?  Ed Slott is known in the financial industry as America’s IRA expert.  Watch this short clip to hear what Ed Slott has to say about IUL.

The Typical IUL

First of all, let’s start by stating that an IUL can be viewed as an investment vehicle with life insurance attached to it, rather than the other way around. In fact, many financial and insurance professionals will recommend selecting the lowest death benefit possible since the fees for the policy are based on the death benefit and not the cash value account.

Additional term coverage can be used to make sure that you have ample life insurance coverage. To many of our clients, this fee basis alone makes an IUL a favorable choice over mutual funds.

The IUL is setup to allow the policyholder to invest a periodic premium into the policy. A small portion goes toward the cost of the life insurance. The balance is deposited in a cash account that earns interest based on the index selected. Although the options available depend on the insurer and the product, the more traditional index options available are typically:

  • The S&P 500tax treatment of IUL cash value
  • The S&P MidCap 400
  • The Dow Jones Industrial Average
  • The NASDAQ 100
  • The EURO STOXX 50
  • The Russell 2000 Index
  • Multi Index (A blend of the S&P 500, Russell 2000, and the EURO STOXX 50)

As of 2018, we have seen newer index options such as:

  • High Participation rate S&P
  • BNP Paribas Momentum 5 index
  • Bloomberg US Dynamic Balance Index II

I am sure that we will see more options coming in the near future since there are 50 or more companies that offer indexed universal life insurance to their customers.  We see companies improving these policies on a constant basis.

With many policies, you can choose to allocate premiums to the indices listed above in any combination, or you can choose to allocate to the fixed account. The fixed account generally pays interest at around 3% to 4%. This amount will fluctuate but most policies will guarantee around 3%.

The index credit is added to your cash account on the index crediting date, which is normally the business day that falls on or immediately after the index period’s end date. The policy will typically have a floor rate (minimum guaranteed) interest credit, participation rate (the amount of earnings the company will credit to the cash account), and a cap rate that limits the amount of earnings that will be credited during the index period.

If you would like to see a list of our recommended indexed universal life insurance providers for 2018 you can check out each of our IUL life insurance policy reviews below:

This list is always being updated. Many thanks to Brett Anderson of IUL Digest for his hours of grueling research and reporting.

Accessing the Cash in Your IUL – how does IRS define tax treatment of IUL cash value

Now to the good part of the story.

Unlike a traditional IRA, Roth IRA, SEP IRA or 401(k), the Fed has placed no limit on the amount of money you can contribute to your IUL.

As a result, your cash value account can accumulate significant earnings early on. As the policy’s cash account builds up, there is no tax liability to be concerned about because the earnings inside the policy are tax-deferred. When the account has accumulated a significant amount of cash, and you want to start accessing the money, the policy will allow you to take income tax-free distributions in the form of a loan or withdrawal.

That means more spendable cash for you. Imagine a retirement income that you pay no taxes on.

You can access the cash for any reason by taking tax-free loans or even partial surrenders that are also tax-free. This method of withdrawing the cash creates a tax-free method of supplementing your tax-deferred retirement such as IRA, Pension, SEP IRA, or 401k plan. 

Just like a roth IRA, an IUL can provide tax-free income for retirement


What happens to the cash value in an IUL life insurance policy when you die?

Even though you are taking tax-free income from your IUL, when you die the death benefit passes on to your family tax-free.  The loans taken against your IUL are paid back to the company with the death benefit and the remainder goes to your beneficiary.

You can literally get your cake and eat it too!

Accessing your cash through living benefits

Another way to access your cash in an IUL policy is through the living benefits. Many of indexed universal life insurance policies that we sell have critical illness coverage, chronic illness coverage, and terminal illness coverage. You can read more about this in another post about living benefits found here. Basically, you can accelerate the death benefit for certain types of catastrophic events or illnesses that prevent you from performing the simple activities of daily living.

You’re in Control

Indexed universal life insurance allows the owner to remain in control. Yes, this is life insurance, but it certainly has some of the characteristics of an investment. You have access to your cash account at any time and for any reason without the tax consequences that most other investment products have. For example, a 401k or IRA or other tax deferred plan will have a 10% IRS penalty for withdrawing money before age 59 1/2.   On top of this 10 percent penalty you will also pay income tax on what you withdraw from your IRA or 401k.

There is no limit on the amount you can pay into your indexed UL and if you need to you can suspend payments for a period of time if you need to.  You can change your death benefit, premium amount, and premium payment frequency. How flexible is that?

High earners and the tax treatment of IUL cash value

An IUL can be perfect for a healthy high earner.  Once you have met your limits of contribution for your 401k, IRA or SEP, your investment options are limited.  High earners who have become frustrated with other inflexible traditional investment products that are heavily regulated and high risk are perfect candidates for the IUL.

Although the IRS does not allow you to roll over existing retirement plans into your indexed universal life insurance policy, many today are using Indexed universal life as a supplemental retirement plan.

Would you rather be taxed on the seed or the harvest?

Should You Buy an IUL Policy?

Deciding which kind of life insurance policy is best for you can be confusing. There are several factors you will need to consider to ensure you have the best coverage to fit your needs.

The first thing you should consider is why are you purchasing life insurance? IUL is not for the average American who is simply wanting to get life insurance protection for their family. If you want to protect your family with the most affordable option, IUL is not right for you. Instead, go shopping for a term insurance policy.

Compare term rates >>>

If you’re new to the insurance or investing market, then IUL probably won’t be the best option either. IUL plans are not the simplest form of life insurance, and they can be a confusing product to manage. Unless you have some working knowledge of both life insurance and indexed investing, you should definitely work with an agent that is experienced in IUL insurance.

Remember the 3 keys to getting the best out of an IUL. 

  1. You want to make sure that the policy is properly structured so that the fees and cost of insurance are at a minimum 
  2. You want to be able to consistently pay premiums until you are ready to start an income stream from your policy 
  3. And last but not least, you want to pay the maximum premium allowed by the IRS. 

This maximum is based on the death benefit that you initially purchase in the policy.  You really need guidance from an IUL professional to get the best IUL plan.

Getting Cheaper Life Insurance

One reason a lot of Americans don’t have life insurance is because they assume it’s too expensive. In most situations, it couldn’t be further from the truth. There are several ways you can get affordable life insurance protection.

One way is to cut out any tobacco you use. If you’re a smoker or use chewing tobacco or smoke cigars, then you’re going to pay much higher rates for your insurance plan. Smokers have a higher risk of being diagnosed with various types of cancer or suffering from a heart attack. The insurance company is going to offset the risk by charging higher rates. Smoker are going to pay at least twice as much for their life insurance compared to non-smokers. 

Cutting out tobacco can save you thousands of dollars every year on your insurance coverage.

The best way to get lower premiums is to compare dozens of companies to find the lowest rate.  This is where using a life insurance agent to help you during this process is important. Every insurance company has different medical underwriting and ways they calculate premiums. The quotes you get could vary wildly. Depending on the company, you could spend hundreds more than you have to.  An experienced life insurance agent will know what company will give you the lowest rate based on your health.

Working with an Independent Insurance Agent

When you’re shopping for life insurance, either an IUL plan or one of the other options, it’s important you find the best company for you. Every insurance company is different, and all of them have various benefits. When it comes to IUL, each company is going to have a different take on their policy.

As of 2016 there were almost 6,000 life insurance companies available to purchase life insurance from.  Many companies offer IUL policies, which means you could spend days researching companies and calling agents. Instead of wasting your precious time, let one of our independent insurance agents do the work for you.

We know shopping for life insurance can be a confusing and overwhelming process, especially when you’re shopping for a complex IUL policy. It’s our job to help you navigate the insurance waters and connect you with the perfect policy.

Unlike a traditional insurance agent, we are independent agents, which means we work with 40 to 50 highly rated insurance companies across the nation. If you’re looking for IUL life insurance, we can help you decide which company will give you the best coverage at the most affordable rate.

You never know what’s going to happen tomorrow, which means you shouldn’t wait another day to get the insurance protection your family deserves. Regardless of what kind of life insurance plan you buy, it’s important you have the coverage they need. If you have any questions about IUL or the other options available, please contact one of our agents today. We can answer those questions and connect you with the best possible plan available.

To get immediate advice about IULs from a reputable insurance professional, contact Ogletree Financial Services by completing the form on the left of the page or calling 1-800-712-8519. 

Our agents have years of experience working with all types of clients and indexed universal life insurance plans across the country.

If you are just simply wanting a term life insurance quote, you can compare rates below:

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About Doug Mitchell
About Doug Mitchell

Doug Mitchell, CLU holds a BA degree in Finance from Auburn University as well as having obtained a Chartered Life Underwriter (CLU) designation from The American College in Bryn Mahr, PA.  Doug has spent over 20 years in the life insurance industry and has also held licenses to sell securities, long-term care insurance, home and auto insurance.  For two years, Doug served as President of the Auburn Opelika Association of Financial Advisors and has been a member of the Million Dollar Round Table.  He obtained Life Millionaire status at Horace Mann Insurance Company and was awarded the Life Agent of the Year Award.  Later in his career with New York Life he was an Executive Council Member.  Doug currently serves as President of Ogletree Financial, a life insurance marketing organization with over 1000 life insurance agents.  Today, Doug’s main focus is servicing 1000s of policyholders and growing his agency through the reach of

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