Buy term and “invest” the rest with indexed universal life
By Sheryl J. Moore
Moore Market Intelligence
For as long as I’ve been handling my own finances, I’ve been hearing that people should “buy term and invest the difference.” I have never really taken stock in the concept. I mean, I am a financial services professional that cut her teeth on whole life, but who would adopt this theory centered around buying only term life insurance?
Granted, term is an inexpensive type of life insurance, but it is also a temporary type of coverage (10, 20, 30 years max!). And just who would purchase absolutely no permanent cash value life insurance? Admittedly, permanent life insurance is more expensive than term, but it is, well, permanent. It ensures that you have life insurance beyond 30 years — no matter how long you live, in fact — and depending on the type of insurance, your premium amount may never change (unlike renewable term policies).
Then there is that whole “invest the difference” thing. It really rubs me the wrong way. These “buy term and invest the difference” folks would suggest that you take the difference between the premium that you would have paid in whole life insurance and what you are actually paying for your term insurance premium, and invest it? Some sales idea... Too bad it doesn’t work!
That is like giving my 17-year-old $20 and saying, “I trust that you’ll spend this on a healthy dinner while out with your friends.” Instead, you know he’s going to spend it on greasy burgers, fries and ice cream. Keep it real.
If for no other reason than the fact that Americans are horrible at saving money, “buy term and invest the difference” should be banned from our vocabularies. Be patient while I drop some knowledge on this point:
- According to the U.S. Social Security Administration, the average American’s annual wage was $42,979.61 in 2011;
- Yet, only 14.6 percent of American families had liquid assets of $50,000 or more during that same period;
- That means that less than 1 in 4 families would be able to replace one income-earner’s wages should they be unemployed for a year.
What if I told you that there was a product that could help Americans to buy term and invest the difference, all with a single purchase? Here is where I get just downright kooky. Watch closely…
Have you ever studied how indexed universal life (IUL) insurance technically works? It is a type of cash value life insurance that has a flexible premium payment system where you can pay as much as you’d like to build up the cash value of your policy more quickly (subject to certain limits — DEFRA, MEC, TEFRA, etc.). On the other hand, the insurance charges that are deducted from IUL are not unlike annual renewable term insurance; the cost of insurance charges increase annually, based on your new attained age. Conveniently, all insurance charges are deducted from the policy every month, regardless of whether premiums are paid. I like to explain this concept to newbies in the insurance biz as having a checking account with a monthly draft for your gym membership dues. You may deposit your paychecks to the checking account, and you may not. However, that payment for your gym membership is going to come out of your account regardless of other account activity.
Now that we’ve addressed how you “pay” for your life insurance on IUL, let’s talk about how you earn interest to accumulate those policy cash values. (This is where that “invest” part comes in.) Indexed UL earns limited interest based on the performance of a stock market index, such as Standard & Poor’s 500 Index. So, if the S&P 500 index goes up 20 percent over a one-year period, your IUL may receive 12 percent indexed interest. In exchange for earning a limited amount of the index’s growth, the IUL will never receive less than 0 percent interest. Even if the S&P 500 declines 20 percent from one year to the next, your IUL will not lose any cash value as a result of the market’s losses.
Now, let’s talk about what one could do with those cash values. In the biz, we like to refer to IUL as offering “living benefits” in addition to paying a death benefit to one’s heirs. This is because the cash values on permanent life insurance products can be used for a wide variety of needs while the insured person is still living:
- education funding
- emergency cash needs
- funding major purchases
- providing a down-payment on a home
- supplementing retirement income
Plus, the beauty of IUL is that most competitive products offer a provision where you can access your policy cash values by taking a loan with a feature that continues to credit indexed interest on the cash values that are loaned against. Talk about having your cake and eating it too! Imagine the interest compounding on a product with that kind of power.
So, given all of this information, isn’t it conceivable that indexed universal life is a product that would allow Americans to buy term and invest the rest?
It would be hard to argue against the logic, wouldn’t it? Now, don’t get me wrong. Indexed UL is not an investment. A true investment is a securities product that is subject to market losses. You are never subject to market losses with IUL simply because you are never subject to market gains either. With IUL, you are not invested in the market, but merely earning interest based on the performance of the market.
Kind of seems like a value proposition that is stronger than “buy term and invest the difference,” doesn’t it? Consider the better alternative. Consider indexed UL.