As most readers know, one of my favorite wealth-building tools is a properly designed equity indexed universal life insurance (EIUL) policy.
Why? It's simple. Money grows tax free, can be removed tax free, there is no stock-market risk*, and there is good upside potential when the stock market does well (usually with a cap).
Calculating returns in EIUL policies
Most EIUL policies credit returns based on an annual point-to-point method with a cap. The insurance company looks at the value of a measuring stock index (typically the S&P 500) on a particular day and a year later, looks at the index value again to calculate the return (annual caps are typically 10 percent to 15 percent).
Clients don't like caps, but they like no downside risk (especially when the stock market goes negative 59 percent, like it did recently).
Companies want to illustrate that their policies are "the ones" that can best grow a client's money for retirement. Companies use "default" crediting and variable loan rates to drive their illustration software and show how their policies might work out in the future. The default rates are derived by using the insurance company's current design (caps and lending rates) and calculating what the policies would have returned over the last 20-25 years (it varies slightly per company).
For example, using a 20-year back test, a company that has a 15 percent cap would set as a default rate a rate of approximately 8.8 percent. With a 12 percent cap, the back tested rate of return of would be approximately 7.2 percent.
One huge feature that drives the return in an EIUL policy is the lending rate on variable loans that are offered in these policies. Variable loans are a great option, but they are very abused in the sales process
The problem with crediting wars is that most companies illustrate their "current" lending rate on their policies. However, we are at historic lows for interest rates, and these low "variable" loan rates are being projected out 20-30+ years. It's total nonsense.
The current lending rates are around 5.25 percent. The 50-year average for EIUL lending rates is 7.7 percent. It is for this reason that I always use a crediting rate of at least 7 percent when illustrating the "what if" scenario for what might happen in the retirement phase of policies that don't have a fixed lending rate.
Which policy has the best potential for growth?
I'll give you a clue: It's not the number one selling EIUL policy in the market. The No. 1 selling policy is not even in top three when it comes to highest back tested returns. Also, the policy has a true variable loan (the lending rate is not capped or fixed at 5 percent to 6 percent).
Then why is the No. 1 policy No. 1 in the marketplace? Probably because insurance agents are creatures of habit who use it because that's what they are used to. Sad but true. Also, many agents have financial reasons to keep selling the same policy (free trips, deferred compensation, etc.) Again, sad but true.
No cap and a 180 percent participation rate -- What policy has the best potential for return? Actually, the answer is fairly clear; it's one that has as a crediting method, a NO-CAP option (monthly average) and a 180 percent crediting rate. It's one that I've decided to add to my marketing platform.
What is the back-tested rate of return for this product? 9.51 percent. Yep, if you back test this product 23 years, the rate of return would have been 9.51 percent. And, because it's an EIUL policy, there is no risk of loss due to a downturn in the stock market.
Let's compare the No. 1 selling product to the highest potential return product
Let's look at an example for a 45-year old male in good health, who funds $15,000 a year into a policy from ages 45-65 and then takes max loans from ages 66-80.
Example 1: I'll use the default crediting rate of the number one EIUL policy, which is 8.05 percent, and a 7 percent loan rate on the variable loan. For the highest returning EIUL policy, I'll also use 8.05 percent as a crediting rate (even though it's 1.46 percent less than its back tested return) and a 6 percent loan rate. Why a 6 percent loan rate? Because the product has a contractually guaranteed 6 percent loan rate (which is great for the consumer).
Example 2: I'll use the same variables for the number one ranked EIUL policy, and then I'll use the back tested 9.51 percent rate of return for the high-return product.
Outcome for example 1: The top ranked EIUL policy allows tax-free borrowing of $50,000 each year from ages 66-80. The high-return EIUL policy allows tax-free borrowing of
Outcome for example 2: It's the same for the top ranked EIUL ($50,000). For the high-return EIUL, the amount is a staggering $96,350 per year.
What does this exercise tell us? Several things including that most agents are using the wrong product. The top selling EIUL product is not on my list -- it's not good enough to make the grade. If you are using the number one selling EIUL product to your clients, you could do better.
Should you be offering to your clients the EIUL policy that has the best chance to earn the highest rate of return? I think so, which is why I just added this product to my platform. It won't always be the best fit for your clients, but it's one that needs to be discussed.
*In negative stock market years, EIUL policies typically return 0 percent which is great. However, expenses in the policy are charged every year (regardless of the returns).
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