By KIMBERLY ROTTER, last modified November 22, 2022, as reviewed by ANTHONY BATTLE Life insurance comes in a variety of forms and can assist in providing some financial relief to you and your loved ones in the event that you pass away.
It can be hard to know which type to choose, from whole to term and universal to variable. especially when you include unique insurance products like indexed universal life (IUL) insurance.
You can reap the benefits of market gains while building a cash value with this kind of policy. IUL, also known as equity-indexed universal life insurance, guarantees a payout to your heirs in the event of your death. IUL, like other forms of universal life insurance, has a cash value that grows in proportion to paid premiums. If you cancel the policy, you can get the cash value or use the money to take out a loan and use it for other things.
1 The premiums for these policies go toward term life insurance that can be renewed annually. After fees are deducted, the remainder is added to the policy’s cash value. Interest is paid on the cash value based on changes in an equity index on a monthly or annual basis. Before buying IUL insurance, it’s important to know how it works because some people may find it useful. When compared to other types of life insurance, there are numerous benefits and drawbacks.
Important Takeaways Indexed universal life insurance policies offer greater upside potential, flexibility, and gains that are not subject to taxation.
As long as the premiums are paid, this kind of life insurance provides coverage that lasts forever.
Limits on returns and no assurances regarding premium amounts or market returns are among the disadvantages.
If you stop paying your premiums, you risk losing your IUL insurance policy.
If you want options for a tax-free retirement and have significant upfront investments, IUL policies are typically the best option.
How Indexed Universal Life Insurance (IUL) Works IUL insurance is marketed as a cash-value policy that reaps tax-free market gains without incurring loss in a downturn in the market.
2 A market index, such as the S&P 500 or the Nasdaq 100, can be linked to a portion of the policy’s cash value by the insured. The policy’s rate of return changes in tandem with the index’s upward and downward movements. The maximum amount you can invest, up to 100 percent, varies between policies.
2 In the event that the indexed account experiences gains, a percentage of the interest income—the participation rate—is added to the policy’s cash value (usually calculated over a month). This usually happens once every year or every five years. Therefore, assuming a 4% gain, a participation rate of 50%, and a total cash value of $10,000 at the present time, As a result, the cash value is increased by $200 (4% x 50% x $10,000 = $200).
The account receives very little or nothing if the value of the index stays the same or falls. But there is one advantage: The insured is shielded from financial ruin.
IULs are not considered investment securities, despite the fact that they perform like securities. Jordan Niefeld, CPA, CFP, of Raymond James & Associates in Aventura, Florida, stated, “The cash value is not actually invested in the market or an index.” The cash value account’s interest crediting rate is simply calculated using the index.
It is essential to conduct research to ensure that your insurance provider is a reputable universal life insurance company, as is the case with any type of universal life insurance.
Advantages of Indexed Universal Life Insurance Higher Potential for Returns One significant advantage of IUL insurance is the possibility of gains in the cash value that may be greater than those on other types of life insurance, such as traditional universal life or whole life insurance policies.
Additionally, policyholders benefit from a crediting floor, which typically ranges from 0% to 1%. This means that the current cash value is protected from losses in a market with poor performance.
3 Niefeld stated, “The client does not participate in a negative crediting rate if the index generates a negative return.” To put it another way, the account won’t lose any of its initial cash value.
Advantages in Taxation for Capital Gains The death benefit is exempt from taxation for beneficiaries, and the cash value accrues tax-deferred. In many instances, loans secured by the policy are also tax-free. Since premiums are paid with money left over from taxes, both partial and complete withdrawals—up to the amount paid in premiums—are exempt from taxes.
