Life Insurance - Is Universal Life Insurance Right for You?

The debate continues over which type of life insurance is best: term life or whole life. For some people the answer may lie somewhere between the two, with a type of insurance known as universal life insurance. Like term life insurance, universal life insurance costs less than traditional whole life and it offers more flexibility. Like whole life, universal life provides coverage until death regardless of changes in the age or health of the insured.

Universal life insurance is permanent life insurance. The insurance remains in force for as long as premiums are paid. This differs from term life insurance, which, as the name suggests, insures a life for a limited amount of time, or term. The term could be quite long—up to thirty years—but when the end of the term comes, the insurance expires.

Some term life policies are renewable annually or after certain periods, but the cost increases with each renewal. A 60-year-old man has a much greater chance of dying during the policy term than a 30-year-old does, so the premiums for a 60-year-old are much higher. According to the latest figures from Insure.com, a 20-year, $500,000 term policy that costs a man $245 a year at age 30 would cost $2,525 a year at age 60—an increase of more than 1000%. If more weight, high blood pressure, and/or high cholesterol accompany the age increase—as is often the case—the premiums will be much higher, if the person does not have a renewable term life policy. A person who has developed serious disease, such as cancer, HIV, or even diabetes during the 30 years covered by the term life policy, may not be insurable when the term is over.

Changes in age, weight, and health do not affect insurability with permanent life insurance. Permanent means permanent. With the guarantee of open-ended insurability, permanent life insurance such as whole life insurance and universal life insurance cost can cost up to 10 times more that term life insurance. The cost savings of term life insurance can be erased later in life, when the initial term has expired and the consumer reapplies for coverage.

In addition to offering permanent insurability, both whole life and universal life offer savings features that term life does not. In the early years of the policy, the actual cost of insuring the policyholder’s life is less than the premium amount. The excess amount—minus administrative fees and the insurance company’s profit—is invested by the insurer. These funds accumulate in a tax-deferred savings account. The excess premiums and the proceeds from these investments create the policy’s “cash value.” The policyholder can access these funds in the form of a low-interest policy loan, withdrawal, or by cancelling the policy and receiving the cash value as the “surrender amount.”

Whole life insurance offers “set it and forget it” simplicity. The premium amount, the face value of the policy (the amount the policy will pay upon death of the insured) and the accumulation of cash value are fixed—and guaranteed—at the time the policy begins. Simple and secure, whole life does not offer much flexibility.

Universal life insurance combines the strengths of whole life insurance with greater flexibility so the policyholder can adjust to changes in life. The policyholder can adjust the premium upward or downward, within limits, to deep pace with his or her increased or decreased buying power. The policy holder can also change the death benefit to meet changing goals and responsibilities. For example, if policyholder has more children, or remarries and suddenly has more dependents, he or she may decide a larger death benefit is necessary to help his or her survivors to maintain their lifestyle without his or her income to depend on. Making such a change is easy with universal life insurance.

The cash value of a universal life insurance policy is tied to the insurance company’s performance. If the company’s investments perform well, the cash value in the policy can accumulate more quickly than with a whole life insurance policy. If the insurance company’s do not perform well, however, the accumulation rate of the cash value will grow more slowly or not at all. For this reason, universal life insurance costs less than whole life insurance.

The universal life insurance policyholder cannot direct the investments into specific investments or accounts, as a independent investor can, or as a policyholder with a type of life insurance known as variable life insurance can.

The cash value of the universal life policy accumulates tax-free. The death benefit is also tax-free. If the cash value of the policy is taken out before retirement age, however, the gains are subject to taxation.

Universal life insurance policies can also be emended with various “riders.” The policy can be expanded to insure the life of a spouse or child. Separate riders can provide insurance covering mortgage protection, disability, accidental death, and critical illness.

Many consumers find that the flexibility of coverage, premiums, and death benefit amounts make universal life insurance a reasonable solution for the vicissitudes of life.