For many people term life insurance will be the most affordable and best option for a life insurance policy. However if you need to have a permanent life insurance policy, what option should you choose? One of the reasons people don’t choose whole life insurance is because of the perceived rigidity of the policy. It’s true, in some respects – whole of life insurance is pretty inflexible. You pay a set premium, and you receive a guaranteed death benefit. On the other hand, term insurance won’t work if you need to have lifetime coverage. This is when universal life comes into play. Here’s how to choose a UL policy:
Stick To Policies With Secondary Guarantees
Secondary guarantee policies are ones where the insurer has guaranteed the death benefit regardless of the policy’s actual performance. In other words, your policy might ordinary lapse due to insufficient cash value accumulation or rising insurance costs, but the policy will remain in force anyway.
These policies are incredibly popular with the public because it shifts the risk of a policy lapsing back to the insurance company. Traditionally, the risk of a UL policy has been shared by both the insurance company and the policyholder. However, competitive pressures forced the industry to adopt a policy design that shifts more of that risk back to the insurer – thus allowing policyholders to worry about one thing: making premium payments on-time.
Stick with secondary guarantee policies, and your insurance policy will pay a death claim regardless of how it performs.
Choose Simple Policy Designs
The simpler, the better. Universal life has evolved over the years to include investment options and complex hedging strategies embedded into the contract. While these features are “neat,” they also make the policy harder to control.
Often, secondary guarantees have to be limited or cut to make the policy attractive as an alternative investment or a high cash value policy. These policies are targeted at those wishing to accumulate excess savings for retirement. The policy typically has a low “drag” due to the fact that policyholders are encouraged to schedule premium payments in excess of the minimum payment required to keep the policy in-force.
However, much of the performance relies on assumptions that may or may not come to fruition. For example, variable universal life relies on the performance of investments in the insurer’s sub-account. Indexed universal life relies on the performance of the insurer’s hedged investments that contain index call options – a highly sophisticated and complicated investment strategy.
If the insurer can’t realize its assumptions, the policy’s performance will be well below the illustrated performance your life insurance agent gives to you. If you’re thinking of using universal life as a way to supplement your future retirement income, stick to a policy with simple-to-understand policy provisions, a solid track record of high cash value growth, and simple policy loan provisions that include a “wash loan” or low interest loan feature.
Select Your Death Benefit Carefully
Universal life offers two death benefit options – an increase death benefit option and a level death benefit option. On paper, the increasing death benefit option makes a lot of sense and it looks attractive. However, in practice, the increasing death benefit option comes with a lot of risk. This is because the increasing death benefit option piles cash value on top of a level death benefit. That death benefit is always an annual renewable term policy.
As you grow older, the cost of that level term policy increases. Beyond age 60, the cost of insurance rises extremely fast and your policy’s investment function may not be able to keep up with the cost of insurance in your advanced age.
A level death benefit builds up cash value against the death benefit, reducing the amount of insurance you purchase over time. Thus, even though the cost per $1,000 of death benefit rises, the total amount of death benefit you purchase decreases. This usually causes the total cost of insurance to fall over time, making the insurance policy less expensive instead of more expensive.
Plan Your Premium In Advance
Plan to pay more than the target premium listed in your policy’s contract. The target premium is the minimum premium that will keep the policy in-force as long as all of the insurer’s assumptions turn out to be true. Often, insurance company assumptions are optimistic to attract sales. By paying more than the target premium, you protect yourself in the long-run from rising insurance charges that could cause your policy to lapse.