There are two types of life insurance: permanent life and term life. Term life insurance only lasts for a specific timeframe, while permanent life insurance never expires and has a cash value component in addition to the death benefit. You can take a loan on the cash value or use it as collateral during your lifetime. This is why permanent life insurance is considerably more expensive than term life insurance.
Although whole life insurance is often used synonymously with permanent life insurance, whole life, universal life, and variable life are actually types of permanent life insurance. Other permanent life insurance policies, like indexed universal life, are variations of these three products.
Understanding indexed universal life insurance
A blend of insurance and investment features
Indexed universal life, referred to as IUL, is a type of universal life insurance that is permanent (it never expires). Unlike universal life insurance, indexed universal life insurance's cash value earns interest based on the performance of indexed stock markets and bonds, such as S&P and Nasdaq. Keep in mind that it isn't directly invested in the stock market.
Mark Williams, CEO of Brokers International, mentions an indexed universal life policy is like an indexed annuity that feels like universal life. But instead of growing your earnings based on money market rates, you are dealing with options on the stock market. Take a look at the table below for the differences between various life insurance policies.
| Policy type | Description |
| Indexed Universal Life |
|
| Universal life |
|
| Guaranteed Universal Life (GUL) |
|
The cash value component
Cash value in an IUL invests a portion of your premium to grow your policy. You can use the cash value during your lifetime to pay your children's college tuition, fund a business, or purchase a second home.
Many people use the cash value to fund their retirement — paying themselves a monthly income when they stop working. Due to these features, permanent life insurance can function as an investment and wealth-building tool.
How IUL's cash value growth works
Universal life insurance was created in the 1980s when interest rates were high. Like other types of permanent life insurance, this policy has a cash value. Universal life's cash value earns interest based on current money market rates, but interest rates fluctuate with the market.
Indexed universal life (IUL) operates like universal life, except instead of being based on interest rates invested in the insurance company's portfolio, it mimics the performance of indexed stocks and options on the Nasdaq and other exchanges.
Protection from market losses
Indexed universal life policies offer a minimum guaranteed interest rate, also known as an interest crediting floor, which minimizes market losses. For example, say your cash value loses 8%. Many companies provide a floor of 0%, meaning you won't lose 8% of your investment in this case.
Be aware that your cash value can decline even with a floor due to premiums and other costs. Insufficient cash value can cause your coverage to lapse or end, meaning your beneficiaries won't get a death benefit.
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Benefits of indexed universal life insurance
Potential for higher cash value growth
Since the performance of your IUL is contingent upon the performance of the market, you could see higher yields than other types of permanent policy. If the market does well, your cash value also does well. One thing to note is that insurers may impose an interest crediting cap of 8% to 12%. This means that even if the market index performs exceptionally well and exceeds this cap, your earnings are capped at the specified percentage
Downside protection
Market volatility affects cash value growth, making indexed universal life a riskier investment product than whole life or universal life insurance. Fortunately, the standard IUL offers a guaranteed minimum crediting rate. This ensures your cash value won't decrease below the lower threshold, even if the market performs poorly.
Flexibility in premiums and death benefit
Like a universal life policy, IULs allow you to increase or decrease your death benefit. If you lose your job, you can call the insurance company to decrease your death benefit in half so your payment can go down. It also gives you the ability to change if circumstances change.
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$19 for males and $16 for females per month
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- Term life and whole life
FAQs
How is IUL different from other life insurance types?
Indexed universal life insurance differs from other life insurance types due to its cash value growth and flexibility. This policy's growth is tied to the performance of specific market indexes, such as the S&P 500. It also allows you to modify your death benefit and, therefore, your premiums during life changes.
What are the risks of indexed universal life policies?
The risks of indexed universal life insurance policies include lower returns and coverage lapses. With an IUL, your money grows based on the market. If the market does poorly, so do your investments. Additionally, you may have to pay more premiums if your cash value runs low. Otherwise, you run the risk of losing your coverage.
Is indexed universal life a good investment?
Indexed universal life insurance can be a good investment as it provides a death benefit and tax-advantaged cash value growth. But its yields are generally subpar compared to other investment vehicles, especially since it enforces an interest crediting cap. Consider maxing out your retirement plan before purchasing an IUL policy.
How do I choose an indexed universal life policy?
Choose an IUL policy by comparing caps, floors, and index options to ensure it aligns with your risk tolerance and financial goals. You'll also want to consider cost, coverage, and company reputation.
Who is IUL best suited for?
IULs are best suited for high-net-worth individuals—those with at least $1 million in liquid assets— for tax benefits, estate planning, endowments, and gifts. It costs considerably more than term life insurance because permanent life insurance is also a wealth-building tool. It's also best for those willing to assume additional risk for higher returns.
What is an IUL?
A IUL is a permanent life insurance policy that borrows from the properties of a universal life insurance policy. Like universal life, it allows flexibility in your death benefit and premium payments. Unlike universal life, your cash value grows based on the performance of market indexes such as the S&P 500 or Nasdaq.
