Selecting the Right Type of Life Insurance

Kudos to you for reading this important information. Buying life insurance is one of the most important steps to securing your family security. It also may be one of the most important components of your retirement plan. Let’s review some of the basics to determine what type of life insurance is suitable for your needs.

Low Cost Term life Insurance

Most people only view life insurance as only a necessary expense. For this reason, many minimize this expense by shopping for the lowest premium available for a desired death benefit. This is an entirely appropriate view if your need for coverage is short term and you are working with a minimum budget.  Term insurance is appropriate for those who are trying to minimize the cost of life insurance and may not care if the life insurance is permanent. Their focus is that Term Insurance provides a short-term income replacement in case of the death of a loved one. But when buying this Term Insurance you should remember that Term only provides death benefits for a certain period of time.

Term insurance is inexpensive because it usually expires before a person is likely to die. Yep, the money you have paid for the life insurance is just gone with no returns—right into the hands of the life insurance company.

Buying lower cost term insurance may allow you to have additional assets available to make other investments. This is why the adage buy term and invest the rest is frequently quoted.

Return of Premium Term Life Insurance

Return of Premium Term Life Insurance does exactly what it implies. At the end of the term all your premium are returned if you don’t die.  The insurance company can afford to do this because they have been charging considerable higher premiums and have invested the extra premiums in order to pay the actual cost term of insurance on your behalf.

However, this may not be a good investment. If you are willing to pay higher premiums why not buy a permanent life insurance policy that would provide coverage for the rest of your life.

Guarantee Universal Life Insurance (GUL)

Instead of a temporary term policy, a permanent life insurance policy called a Guarantee Universal Life (GUL) policy will cost more because it will cover you until you die. The guarantee refers to the fact that both the premium amount and the death benefit amount are guaranteed as long as the premiums are paid timely.  However, this form of permanent life insurance seldom builds much cash value for the insured so the only benefit is the death benefit. If the policy is canceled before death, little if any cash value is returned to the policy owner.

Cash Accumulating Life Insurance

To provide for the death benefit of a permanent life insurance policy, insurance companies are required by insurance regulators to build assets to eventually pay that benefit. Since they are building this pile of cash anyway, many insurance companies also offer various types of permanent life insurance, that allows for the policy owner to have access to the accumulating cash value. Policy holders can cancel the policy and walk away with the cash value which could be considerable more than the total premiums paid. These policies have higher premiums than GUL policies but are designed to provide many investments and tax benefits beyond just a simple death benefit. Included in these benefits are loan provisions, long term care (nursing home) provisions, and retirement cash flow, and a hedge again future higher tax rates.

With cash accumulating policy’s premiums, particularly in the beginning, are great than the actual cost of insurance. This allows for some of the excess premium to be contributed into an investment account (the pile of cash we were referring to earlier).  This investment account will be sucked dry to pay the death benefit, but until death, this account also can be used by the policy holder in various ways. The investment account earns interest as determined by the type of policy. How these policies earn interest is what differentiates them. Let’s examine the three basic types of cash building permanent life insurance policies in the following sections.

Whole or Universal Life Insurance

Whole or Universal Life Insurance credits the cash value of the policy with annual interest, which is typically in the 3 to 5% range. Many of these policies issued 20 to 35 years ago assumed a higher interest rate than today’s prevailing rates and are now underfunded. This means that the cash value did not grow fast enough and the planed premium is not enough to keep these policies in force.  Many older Whole Life policies are in danger of lapsing and should be reviewed. Due to their low yield and slow cash value growth, many financial advisors recommend against Whole Life. Instead, they recommend buying Term Life insurance and investing the rest in the stock market. This is good advice, if Whole or Universal life is your only option. If you still hold one of these policies, review it and consider exchanging it for an IUL.

Note Universal Life is very similar to Whole Life but allows for more flexible premium payments.

Variable Universal Life Insurance

In the 1990s, Variable Universal Life Insurance became popular. This type of policy invests its cash value in the stock market through mutual funds with the hope of making better returns than the old style Whole Life policy. Variable Universal Life was an attempt to defeat the criticism embodied in the phrase “buy term and invest the rest.” However, the internal costs of these plans were quite high, and when the negative stock markets of 2000-2002 and 2008 occurred, these policies performed terribly. With their cash value directly invested in the stock market, these policies incurred large losses that were difficult to recover from without adding significantly to the premium. Stay away from this risky form of life insurance! If you still have a variable policy, exchange it for an IUL.

Index Universal Life Insurance (IUL)

In about 2000, Index Universal Life (IUL) insurance started to gain popularity, particularly after the 2008 market decline. This type of policy avoids the downside of investing directly in the stock market or in mutual funds like with Variable Life. You never have money invested in the stock market. Instead, the insurance company awards interest annually based on how the stock market performs over the previous year. Your gains are capped in the up years to a very generous amount of typically 10 to 14%. Better still, you are protected from negative market performance. In a down market year, your credit can go no lower than zero (zero is your hero!). In other words, you can’t be penalized for the stock market’s loss. You simply won’t have any interest credited to your account that year, a situation that is easy to bounce back from. This credit system results in a better performance than the raw stock market over most rolling ten year periods. But not all IUL insurance companies, policies, or insurance agents can structure an IUL for maximum cash value accumulation and/or retirement cash flow.

Since this form of insurance provides for a high possibility of cash value growth, it can results in lower premiums for a higher death benefit. However, if the stock market under performs for a considerable number of years, you may be forced to increase your premiums in order to keep the policy in force. Although this form of life insurance is considerable less risky than variable life, it may not be appropriate for someone who is highly risk adverse.

Due to its potential investment opportunity with limited down side, many IUL are structured to maximize the investment aspects of this type of policy.  The retirement and tax consequences of such structuring are substantial. But not all IUL insurance companies, policies, or insurance agents can structure an IUL for maximum cash value accumulation and/or retirement cash flow.

Specialty Life Insurance

Certain life circumstances require a special approach to life insurance. If you fall under any of these special cases, visit the Specialty Life Insurance page for more information.

  • Living with HIV
  • Cannabis user
  • Cigar smoker
  • Foreign national
  • Living abroad

Go to the calendar link below to schedule an appointment with an expert, Curtis Hill. Discover right type of insurance at the right price for your particular situation. Learn how “Not the same old advice” can benefit you.