Universal Life Insurance Definition
A type of permanent life insurance that includes both a death benefit and a tax-advantaged investment account. Universal life insurance is a type of permanent life insurance. It differs from whole life insurance, another common type of permanent insurance, in that it allows the policyholder to choose how his or her money is invested instead of having the insurance company select the investments. Unlike term insurance, which ends after 5, 10, 20 or 30 years, you can keep a universal life policy until you die, as long as you pay the premiums. Universal life insurance typically costs several times more than term life insurance for the same amount of death benefit. Your policy’s cost depends on your age, health and how much coverage you choose. If your universal life policy is a “participating” policy, you will receive dividends from the insurance company if it earns enough profit to share with policyholders.
Example
When Jim Floundermistering pays his universal life insurance premiums, part of his check pays for the life insurance death benefit, part of it goes into an investment that Jim chooses and that will grow tax deferred, and part of it pays the insurance company’s administrative fees. While he can choose his investments, his policy limits the number of times per year he can change his investments. This arrangement works for Jim because he is a buy-and-hold investor and plans to leave the investment account to his heirs.
The insurance company gives him a choice between a low but guaranteed minimum rate of return and investments that go up and down depending on how the market performs. Both the death benefit and the investment component are not taxable to Jim’s beneficiaries.
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Tips From First Foundation
Insurance companies promote the universal life policy’s investment component as a way to build wealth, increase retirement income, provide a safety net in case of disability, and provide greater financial security. Many people are better off purchasing cheaper term insurance and investing the difference on their own, however.
Policyholders can access the investment portion of their policy while they are alive through a loan or withdrawal. The loan charges interest, and if it is outstanding upon your death, the loan amount is subtracted from the death benefit and cash value. Loans may also have tax consequences.
Some universal life policies have level premiums, so you pay the same amount for your policy every year, even as you get older. You pay more than the policy really costs in the early years, and less than it really costs later.
If you cancel your policy before you die, you will receive its surrender value.