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ToggleThere are only two types of insurance: term and permanent. However, there are many variations within both types. The difference between term and permanent can be likened to the difference between renting a home and owning a home. When you rent a home you are entitled to its benefits for the term of the lease. And like a rental lease, term insurance has an expiration date in the future that can be 1 year or more.
There is no cash value accumulation with term insurance, so unlike permanent insurance, there’s no return on your investment in premiums. Yet, term insurance has changed a lot over the years, and not all term policies are created equal. Know the facts on the terms being offered. Some term policies have offerings usually found in permanent policies such as living benefits where you can access all or a portion of the death benefit in the event of the insured’s chronic, critical, or terminal illness.
Other term policies will refund all or some of the total premiums paid at the end of the policy’s life. You will pay more for this type of policy. It can be likened to lending your money out at zero percent interest for the life of the term. It may sound free, but this free has an opportunity cost that may be more that you’re willing to bear.
There’s every good reason to buy term insurance. Generally, it’s best for events whose ending you can reasonably predict, like the expiration of a mortgage or the year your youngest will turn 18. It’s rarely a good idea for timelines over which you have no control, like the time and date of your death.
With this in mind, term insurance can be used to boost insurance coverage for a period of time to coincide with the expiration of an event. For instance, if you expect your youngest to graduate college at 22, you might carry extra coverage in the form of term insurance until they reach age 24. Otherwise, term insurance is rarely a smart long-term play. Less than 1% of term policies pay out. You don’t want your life insurance policy to run out before you do.
Most term policies have 10-, 20-, or 30-year terms. Term policies between insurance carriers can and do offer different policy benefits. Also, an insurance carrier may offer one benefit on a 10-year policy that is not offered on a 30-year policy. Or similarly, one term policy may be offered to persons in one age group and not in another.
All other factors being equal, term policies are less expensive than permanent life policies. This is because term policies—unlike permanent life—will expire and do not accrue cash value. Many choose term policies in order to purchase the maximum death benefit their money can buy to protect young growing families. Once the children are grown or perhaps the mortgage is paid, the need for a large death benefit may no longer exist.
According to a Fourth Quarter 2021 U.S. Retail Individual Life Insurance Sales Survey by LIMRA, term insurance sales are declining and actually went negative year-over-year. Meanwhile Indexed Universal Life (IUL) sales increased by 12% year-over-year and have outdistanced term sales in the marketplace. Additionally, first quarter 2022 insurance sales continued this trend. IULs are permanent insurance policies. As there are only two types of insurance—term and permanent—there’s a natural debate between the two types.
We think there’s a case to be made for having both an IUL policy and term insurance in your portfolio.
There is a lot of debate—even among insurance professionals—concerning term insurance versus permanent insurance. Term insurance has been around for hundreds of years, with the first known policy issued in the U.K. in 1583. Permanent whole life insurance dates back to 4000BC Babylon. On the other hand, IULs are new to the market, having been introduced only in 1997.
You may have heard it said: buy term and invest the difference. An Indexed Universal Life (IUL) policy capitalizes on this concept by providing a death benefit and investment growth within the policy. With these policies a portion of the premium pays for the insurance and policy costs and the rest is dedicated to your cash value which earns interest based on a stock market index—usually, but not exclusively, the S&P 500 index. The premium pricing for IULs generally falls in that middle ground between the higher cost of whole life and the lower cost of term insurance, which can make IULs an attractive alternative.
We think a case can be made for both term insurance and an IUL to co-exist in your life insurance portfolio.
Suppose you have a current need for $250,000 in coverage. A strategy would be to view the elements that make up that need and then choose the appropriate coverage types. For instance, of the $250,000, perhaps $150,000 is earmarked to pay off the mortgage. One strategy might be to buy a term policy in that amount to terminate when the mortgage ends. This means you’re only paying for what you need for the time you need it.
Let’s say another $75,000 is earmarked for college expenses. A separate policy that builds cash value could be a smart option. You could also access the cash value tax-free for weddings or other young adult expenses through policy loans. An IUL would be an excellent choice for this option.
You may have the final $25,000 designated for funeral expenses. Here again, a permanent policy would work best. Term will end. You don’t want your term insurance to end before you do. A final expense whole life policy could be an excellent choice.
Although you will have separate carrier costs because of owning two or more policies, your actual costs may not necessarily be higher. There is a the very real cost of buying one $250,000 term policy that will end before you do and having to purchase more insurance at the end of the term at a much higher rate due to the increase in your age. There is also the cost consideration of buying a $250,000 whole life policy to cover items—such as a mortgage—that will end.
Another strategy is an Indexed Universal Life policy. The cash value in an IUL benefits from stock market indexed growth, yet the cash value will not lose money should the stock market index turn negative.
IULs allow for a reduction in the death benefit and therefore reduced future premium requirements. Using our example above, once the mortgage is paid off, the death benefit could be reduced to $100,000 which would result in reduced premium requirements. Additionally, the cash value accumulated in the policy can be used to pay those future premiums, thereby eliminating the need for out-of-pocket premium payments. In other words, the premiums are being paid from the cash value in the policy itself.
Moreover, an IUL allows for the cash value in the policy to be accessed tax-free through policy loans. Again using our example above, if funds were borrowed for college expenses, there is the option to repay the loan or take a reduction in the death benefit.
The flexibility of an IUL requires vigilant attention to ongoing policy details. For instance, the decision to not pay back a loan or to have premiums paid from the cash value can result in adverse consequences such as not having enough cash value to cover the cost of future premiums. This is because as you increase in age, a larger portion of the premium will go toward covering the cost of life insurance. This means that less of the premium is going towards cash value accumulation where the dollars can experience growth.
Ultimately, you will have to make the decision based on dollars and what makes sense. Talk to us. We’re independent and able to discuss life insurance strategies to best fit your needs. Know the facts, balance the coverage, weigh the costs, then decide
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