Five Common Mistakes to Avoid When Considering IUL

Indexed Universal Life (IUL) is one of those life insurance products that life insurance professionals and clients may either really love, be skeptical of or simply misunderstand.

In order to fully appreciate the advantages of an IUL, it’s time to get clear on what an IUL is and how it works.

1. It’s life insurance, not a retirement plan. Pure and simple, an IUL is a life insurance policy. Too many people focus on it as a way to supplement retirement. While that is certainly one of the possible benefits of the cash accumulation feature of an IUL, this product is really only appropriate for someone who needs or wants life insurance for the long-term. It typically takes between 13 to 15 years of the policy being in force before the cash value accumulation becomes significant.

2. The index accounts in most IULs have a maximum interest rate (Cap). That’s true. And it means that interest credited to the policy cannot exceed this rate cap. But they also have downside protection provided by a minimum interest rate, sometimes referred to as a floor.

If there is a positive change in the S&P 500® (a commonly used domestic index for IULs) during an interest crediting period, the cap could cause the index interest rate credited to an IUL index account to be lower than the positive change in the index.

However, interest rate caps vary and, in some cases, can be as high as 20%, so there is flexibility. And while past performance is no guarantee of future performance, over the 20-year period from 1994-2014, the S&P 500® only rose 20% or more seven times.

Additionally, there’s lower risk because an IUL has a minimum interest rate, or floor, that prevents the index account from losing money if the index it is based on has a negative change during the interest crediting period. Note that in 2008 the S&P 500® had a negative return of nearly 40%.

Any index interest credited at the end of the crediting periods is essentially “locked in” and cannot be taken away due to any future negative changes in the index.

3. Using an arithmetic average when it needs to be a geometric average.
When you’re discussing any sort of investment situation the results are not independent of each other. The preceding year’s results have an impact on the actual amount of earnings in the account. If there is a loss of 5% in an account over one reporting period and a 5% gain in the next, it may appear as if it broke even. But it didn’t. For example, on a $10,000 investment, a 5% decrease would reduce the account value to $9,500. However, a 5% gain the following year would only be applied to the $9,500, resulting in an increase of only $475. The 5% increase does not bring the balance back to the original $10,000.  A 10% loss requires an 11% gain to break even. A 20% loss requires a 25% gain, and so on... Index changes may be positive or negative. And while there is a Cap on the maximum interest rate that may be credited, the floor offered in an IUL is a protective feature that ensures that the index account will never be credited with negative interest.

4.  When considering an IUL, some clients ask, “What if I die too soon?” As long as the policy is in force, there is a death benefit to help provide financial protection for a surviving spouse or beneficiaries, which should be the main reason to consider an IUL as part of an overall financial plan. Some clients may also be concerned that they may “Live too long”. The policy provides the potential to build cash value over time. And once it is sufficient, it can be accessed through policy withdrawals and loans* as a source of funds to help supplement retirement income or for other needs, such as medical expenses. Some policies offer an optional long term care rider that can be used to help offset qualifying expenses.

5. Comparing IULs is not a simple apples-to-apples comparison Different policies may have different features, such as interest rate caps and floors, interest crediting methodologies, participation rates and other features. They can also have different fees and charges and use different indexes on which to base index interest.

While the S&P 500® is probably the most common domestic index used for IULs, some use the Russell, Dow Jones or Nasdaq indexes. If an IUL offers a global index account, other indexes such as the Hang Seng or the EURO STOXX 50®, may be used.

The past few years have seen a lot of changes. Consumers have access to more information and have become better informed.

In general, people are living longer. The bad news to living longer is that people will possibly need to cover more years of retirement and will have a higher likelihood of needing long-term care. College costs have increased, and medical costs are soaring.

With all of these and the other changes happening in our lives, there is a greater role for life insurance than ever before. An IUL is an important life insurance financial tool and can be a smart solution depending on an individual’s specific financial situation, needs and goals.

Understanding how an IUL works and its core features and benefits are critical when trying to decide which insurance choice would be the best alternative. An individual should consult with his or her tax, legal, financial or insurance professional before making any decisions.

 *Loans and withdrawals reduce the policy value and death benefit.

Mark Stueven is Vice President and National Sales Director for Transamerica Brokerage and is dedicated to growing sales and strengthening relationships within the independent brokerage community. He has more than 20 years of experience in the life insurance industry, working closely with agents and independent brokers on both the product, communications and operations side to help ensure that high-quality service levels are not only met but exceeded. For more information about selling IUL, you can contact Mark at mark.stueven@transamerica.com. If you’re interested in learning more about purchasing an IUL product, contact your life insurance agent.