It’s important to understand that although term life insurance is the least expensive life insurance in the marketplace, it is temporary insurance. Certainly, most term life policies can be converted to a permanent life insurance policy before the policy expires, but when you decide to convert your coverage, you are restricted to the products and prices of the company you are doing business with.
If you’ve decided that term life insurance is not the best fit for you because you want a permanent policy that remains in force for a lifetime and you want that policy to build cash value, it’s time to take a look at Universal Life Insurance. It’s time to understand how Universal Life Insurance actually works.
Under the Hood of Universal Life Insurance
With universal life insurance, the policyholder is covered with a guaranteed amount of insurance coverage. Additionally, part of your monthly premium is diverted to your policy’s savings component and then invested to provide the policyholder with cash value accumulation. Over the years, this cash will accumulate on a tax-deferred basis.
Universal life insurance is designed so that your premium payments are higher than the cost of the insurance. This excess premium is placed in the cash value component of the policy.
Each month, the funds in your cash value account earn a guaranteed rate of interest that is specified by the carrier, and then the policy is charged for the cost of insurance. The premiums you pay will also go towards the cost of any riders that you selected when you purchased the policy. Typically, the interest rate offered by the insurance company is determined by the performance of the company’s investments.
Although most policies have a minimum interest that will be paid, when the company’s performance is better than anticipated, the company can credit your cash value account a higher interest rate than the minimum guaranteed rate.
Universal Life Insurance Flexibility
Unlike term and whole life insurance, Universal Life Insurance is flexible. Since the policyholder builds cash value in the policy over time, these funds can be used to pay the periodic premium as long as there is sufficient cash value in the policy to do so. The policyholder can skip one or more payments or reduce the payment amount over time as long as the cash value is available to keep the policy in force. In fact, the policyholder can even change the death benefit to accommodate life events although additional underwriting may be required if the policyholder wants to increase the face amount of the policy.
Universal Life Insurance Advantages
With term life insurance, the policyholder is typically just purchasing a death benefit, but with Universal Life Insurance there many additional advantages over and above the death benefit:
- Guaranteed Interest – The premium that is diverted into the cash value account is guaranteed to earn a minimum interest rate that is specified in the policy. Even if the marketplace takes a severe downturn, the insurance company must credit the cash account the stated minimum interest rate.
- Tax Deferral – Just like other permanent insurance products that accumulate cash value, your cash accumulating will happen on a tax-deferred basis. This allows your cash account to grow at a faster rate since there is no deduction for taxes.
- Access to Cash Value – The cash that accumulates in your policy over time belongs to you and your insurer will allow you to access that money through policy loans and withdrawals. In fact, when you borrow money against your insurance policy it does not decrease your cash value. This means that your cash value will continue to earn interest even though it’s used as collateral for the loan.
- Loans Do Not have to be Paid Back – When you borrow against your policy’s cash value account, you have three choices for repayment: 1. repay all of the loan, 2. repay some of the loan, or 3. repay none of the loan. If you die with outstanding policy loans, the amount that is outstanding will simply be deducted from the death benefit that is paid to your beneficiary.
- The Death Benefit – Like whole life insurance, Universal Life Insurance offers a guaranteed death benefit. This guaranteed death benefit provides the policyholder peace of mind knowing that his or her beneficiary will be able to take care of final expenses and help surviving loved ones deal with the financial difficulties that typically result from the death of a breadwinner.
- Flexibility – Life changes happen to everyone. With Universal Life’s flexibility, the policyholder can make the changes needed to accommodate life events that may require a change in premium or a change in the death benefit.
Who Should Consider Universal Life Insurance?
If you are shopping for life insurance, one of the very first decisions you should make is which type of policy you should purchase. If you’re considering universal life insurance, it may be confusing so we always recommend speaking with an experienced and reputable agent at The Elm Group.
A Universal Life insurance policy is a popular choice for any individual who is searching for a flexible life insurance product. Policyholders will have the opportunity to change their periodic premiums and their face amount based on their needs.
If, however, you are looking for the cheapest life insurance, then universal life insurance will likely not be your best choice. Because of Universal Life’s flexibility and added benefits, it will likely cost substantially more than a basic term insurance policy.
But it’s important to remember that Term Life insurance is temporary coverage and most people prefer the living benefits available with Universal Life. In the majority of cases, policyholders will outlive their term insurance and then be left with the decision to renew at a much higher rate or convert to a permanent policy they may not be able to afford.