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How Universal Life Insurance Works
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Types Of Universal Life Insurance
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Benefits of Universal Life Insurance
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The Drawbacks
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FAQ
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How EZ Can Help
We’ll go over everything you need to know about universal life insurance. As well as break down the various types of universal life policies so you can get an idea of whether or not one of these types of policies might be right for you. While considering these policies, your best bet is to consult with one of our EZ agents. Since life insurance can be complicated!
How Universal Life Insurance Works
Universal life insurance is a type of permanent life insurance. Meaning it will cover you for your entire life, as long as you continue to make your premium payments. This is in contrast to term life insurance, which you purchase to cover yourself for only a specific time frame, or term (usually anywhere from 10 – 30 years).
One of the attractive benefits of universal life insurance is the cash value that you can build up over time. This cash value can be accessed through withdrawals or loans. If you do choose to use this money, your insurance company will deduct the amount of any withdrawals or loans from the death benefit. It’s important to think about if this immediate access to cash value is more important to you than a full payout to beneficiaries in the future. Especially since universal life policies with cash value are usually more expensive than other types of policies.
Types Of Universal Life Insurance
If you’re interested in universal life insurance, you should first know about the multiple types of policies available. Since each is unique in price and in the way they work.
For example, with some universal life policies, the cash value can fluctuate based on market conditions. This means that a policy like variable universal life is the riskiest option. But, with that being said, indexed universal life and variable universal life may allow for a greater accumulation of cash value than guaranteed universal life. Let’s take a closer look at what these types of policies entail.
Guaranteed Universal Life Insurance
A guaranteed universal life (GUL) insurance policy provides a fixed death benefit and fixed premium payments. This type of policy typically has little or no cash value and is the most affordable type of universal life insurance available. Similar to a whole life policy, you pay for lifelong coverage. And while you’re guaranteed a payout with this type of policy, the policy will expire. But you decide when it will do so (such as age 90, 95, 100, 105, 110, or 121). Choosing an older age will result in a higher premium.
Keep in mind that if you outlive your policy, there will be no death benefit when you pass. If there is any cash value in your policy that will be given to you, but you will not receive the death benefit amount. Although, some insurers offer extension options or the option to convert to a whole life policy. Make sure you check what options your insurer offers before you buy your policy.
GUL is also known as “no-lapse guaranteed universal life insurance.” This is to address recent issues in which traditional, non-guaranteed universal life insurance policies have lapsed due to insufficient cash value to cover the policy’s expenses and insurance costs. With these policies, some policyholders who wanted to keep their insurance were forced to pay much higher premiums than they had anticipated.
But these no-lapse policies promise to remain in effect indefinitely. Unless you are late with or miss a payment, in which case the policy will most likely be canceled. If this happens, there will be no money to take with you because there is usually no cash value attached to these policies. The premiums you paid will be retained by the insurance company.
Indexed Universal Life Insurance
Indexed universal life insurance, also known as IUL insurance, is a form of permanent life insurance. This means that it comes with both a death benefit and a cash value component. When you pay your premium, a portion of the money is used to cover the cost of insurance. Any fees are then deducted, and the remainder is added to the cash value. Eventually when your cash value account has enough in it, you can use your cash value to pay you premiums. This means that eventually the policy would pay for itself.
In addition, if you choose an indexed universal life policy, you will most likely have the option to take out a loan against the cash value that has been accumulated in the policy. But if you do not repay your loans, the amount that you owe will be subtracted from the death benefit.
The total cash value also earns interest based on the performance of an equity index (but is not directly invested in the stock market). This means your cash value account has the potential to earn interest by following the performance of an index (stock) chosen by your insurer from a stock market, such as the Nasdaq-100. The way the cash value is invested is one of the distinguishing characteristics of IUL.
IUL policies have premiums and a death benefit that can be adjusted over time. As pointed out above, when you purchase an indexed universal life insurance policy, your insurance company will work with you to choose an index that will be tied to your cash value. Although the cash value as a whole is not directly invested in the stock market, it does receive interest that is calculated relative to the growth of an equity index.
Variable Universal Life Insurance
Just like whole life insurance, variable universal life (VUL) insurance provides financial protection for your entire life. But what sets VUL apart is that the cash value of a variable universal life insurance policy can be invested in “subaccounts” that function similarly to mutual funds. With these accounts, policyholders have complete discretion over how their premiums are spent.
VUL policies are popular because their premiums can be modified and their death benefits can be tailored to your needs. In addition, like a health savings account or a 401(k), the growth of a VUL’s cash value is not subject to immediate taxes. You have complete control over the investment of the cash value.
A variable universal life policy’s monthly premiums are also flexible and can be set by you. The standard payment schedule for a VUL policy is once per month, but you will have the ability to pay your premiums from your cash value if there is enough in your account to cover the minimum payments.
If the policy still has a death benefit when you pass away (i.e., you haven’t borrowed against your death benefit), your beneficiary or beneficiaries will receive that amount.
Benefits of Universal Life Insurance
As with all life insurance policies there are unique benefits and drawbacks of universal life insurance. While shopping for a policy you’ll want to understand both the pros and the cons of each policy, so you’ll know exactly what you’re getting and which is best for you. Below are the pros of universal life.
Flexible Premiums
Premiums for UL policies can be adjusted within certain parameters, unlike those of whole life policies, which remain constant throughout the duration of the policy. Your insurer may accept premium payments that are higher than the premiums. If you do make an overpayment, it will be added to the cash value and will earn interest. Additionally, if there is sufficient cash value, you might be able to reduce or skip payments without risk of policy lapse.
Flexible Death Benefit
Depending on the terms of your policy, you may be able to increase your death benefit in exchange for a medical exam. If you want to reduce your premiums, you can also reduce the amount of your death benefit.
Cash Value Growth
A UL insurance policy, like any permanent life insurance, can build up savings-like cash value. If the market interest rate is higher than the minimum interest rate specified in the policy, your cash value will earn interest at the market rate. You will have the option to borrow against or take out a portion of your cash value as it grows.
Policy Loans
Borrowing against the cash value in a universal life policy is tax-free. These loans don’t require a credit check and typically have lower interest rates than personal loans. But be aware that the amount of your death benefit will be reduced by any outstanding loans.
The Drawbacks
While there are many benefits of universal life insurance, there are a few drawbacks to keep in mind. You might find the benefits far out-weigh the negatives, but it’s important to understand all sides of your choice.
Risk of Lapse
While universal life insurance can be very adaptable due to features like decreasing premiums and emergency withdrawals, you’ll still need to keep a close eye on your policy. Your policy will lapse if your cash value is zero and the premiums you have paid are insufficient to cover the remaining cost of insurance.
No Guaranteed Returns
Your cash value may underperform if interest rates fall. The cash value of universal life insurance policies does not accumulate at a guaranteed rate, in contrast to the cash value of whole life policies. Most UL policies, though, include a minimum interest rate to keep your losses to a minimum.
Taxable Withdraws
Cash value withdrawals from UL policies are subject to taxes. If your withdrawal is below the amount of premiums you’ve paid you will not be taxed on that withdrawal. This is because of the first-in, first-out (FIFO) tax system that governs life insurance policies. On the other hand, you will be subject to taxes on withdrawals that exceed your contributions to the policy.
FAQ
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How do I get money from my cash value?
There are typically several withdrawal strategies available when accessing a policy’s cash value. You can cash out your policy without incurring any taxes. Your death benefit, though, will be reduced by the amount of the loan and interest still owed if you pass away before paying it off. You can also contact the insurance company to surrender the policy if you decide you no longer need life insurance. You will then receive the remaining cash value, minus a surrender fee.
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What is the difference between whole and universal life insurance?
As long as you pay your fixed monthly premiums for your whole life insurance policy, your death benefit will never decrease. On the other hand, there is more flexibility with universal life insurance. You can adjust your premium payments, and in some cases your death benefit, for example. But the death benefit is not assured with these policies. This is because if you borrow against the policy your death benefit will decrease.
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What happens to my cash value when I pass?
The cash value of a life insurance policy should be used while the policyholder is still alive. When you pass away, the life insurance company typically keeps any cash value. The death benefit is paid to your beneficiaries, not the cash value. However, the premiums for policies that offer cash value payouts are typically higher.
If you would like to explore other types of life insurance policies we also have guides on:
How EZ Can Help
Everybody has specific needs, values, and financial limitations. We at EZ know that while you want the best protection for yourself and your loved ones, you also have other costs to consider and a set budget to follow. We aim to simplify the insurance-buying process for you as much as possible, and to provide you with all the assistance you need, at no extra cost to you. Our services are always free, from answering the most basic of questions to helping with plan selection, enrollment, and beyond. We’re here to support you every step of the way! Start by entering your zip code in the box below or calling us at 877-670-3560.
