Indexed universal life insurance policies aim to combine the benefits of both whole life policies and term policies.
Term life insurance policies aren’t investment vehicles and don’t provide lifetime coverage. You buy a term life policy for a set duration of time, such as 20 years, and your death benefit only pays out if you die during the term. If you live long enough, your heirs or beneficiaries get nothing from the policy.
Term life policies generally have low premiums as long as you’re healthy when you get covered. And, policyholders who buy them don’t expect to need insurance forever. You’ll have coverage when your loved ones depend upon your income or the services you provide. Once you get older and have money saved and your mortgage paid off, your family presumably won’t need a death benefit if something happens to you.
Whole life policies, on the other hand, are intended to remain in effect for an indefinite period of time. You may need whole life coverage if you expect to always have people who need you, such as if you require a big life insurance payout to cover estate taxes after your death or if you have a disabled child who will always require financial support and long-term care.
When you choose indexed universal life insurance as your whole life policy, you pay a premium for annual renewable term insurance with the premiums based on the life of the insured. Once you’ve paid the premiums for the term life coverage, the remaining money is added to the cash value of your whole life policy. You then earn an interest rate on the cash value. The amount of interest you can earn is based on:
- How an equity index performs. Indexes are groups of investments, such as stocks and bonds. Your money isn’t directly invested in these indexes, but the returns you earn are based on how the indexes perform. For example, your money could be tacked to an index that tracks the S&P 500. If the equity index declines in value, you will not receive any interest.
- The participation rate: This rate is set by the insurance company and it dictates how much of the gains from the index are credited to your policy. For example, if you have a policy with a $20,000 cash value, your policy has a 50% participation rate and the index gains 5%, you would calculate the cash value added to your policy by multiplying 5% x 50% x $20,000 to get $500.
- Any policy guarantees: While you do not receive interest on your policy if the index you are invested in goes down, some indexed universal life insurance policies do guarantee you’ll receive at least a certain minimum rate of return over time. However, this rate is generally fairly low.
It’s important to shop around carefully when considering indexed universal life policies, as the participation rate and guaranteed return – if any – can make a big impact on how much your policy is worth. You’ll also need to compare the costs of coverage, as both pricing and eligibility will vary based on your age, health status, and policy terms.