Permanent life insurance, also known as cash value life insurance, is a valuable tool in anyone’s investment toolbox. In the following article we will define what permanent life insurance is, introduce you to the different types of policies available, and discuss the pros and cons of permanent life insurance.
Permanent Life Insurance Defined
Permanent life insurance definition: a type of life insurance policy that does not expire (as opposed to term life) and includes a death benefit and cash value savings. The two main policies are whole life and universal life, with each type offering subtle to major differences dependent on policy design.
Advantages of Permanent Life Insurance
The primary pros of permanent life insurance are the death benefit and cash value growth.
Rather than expire upon a specified term, your death benefit will be there when you need it most: upon death. Further, in a properly designed permanent life insurance policy the death benefit can grow over your lifetime. And there are some types of permanent life insurance where you can stop making premium payments and still enjoy the advantages of permanent coverage. That way you have an ever increasing death benefit and cash value account that you no longer have to make premium payments on.
Another benefit of permanent life insurance is when you use it in conjunction with infinite banking. If you are not familiar with infinite banking please click the link but the basic premise is that your cash value in your policy acts as your own private banking system. You can grow your cash value and then use it to pay off debt, purchase other income producing assets, finance your friends and family, and pretty much anything else under the sun.
And as you are practicing personal banking using your own cash value in your permanent life insurance policy, you are growing your cash value and death benefit as you pay back your loan, with interest. Once again, if you are not familiar with infinite banking, AKA cash flow banking, or some of the other names it goes under, this concept is worth checking out.
Tax benefits of Permanent Life Insurance
Another pro associated with this type of coverage is that the tax code provides many benefits to permanent life insurance, AKA cash value life insurance. Among the benefits or incentives in the tax code are:
Tax free death benefit: You death benefit passes income tax free to your beneficiary if your estate is below the current federal exemption level and you are not in a state that has an inheritance tax, AKA death tax. For those in one of the states with an inheritance tax you will need to know what the maximum current level for estates to not be taxed is.
Tax deferred cash value growth: the cash value growth for permanent life insurance is tax deferred. The two ways you can be taxed are if you take out a life insurance loan and your policy lapses or if you withdraw from your policy an amount above your basis.
Income tax free dividends: your whole life insurance dividends are considered return of premium and are not taxed.
Tax free policy loans: there is no tax due if you take out a policy loan. Rather, you are borrowing form the life insurance company using your cash value as collateral.
Cons of Permanent Life Insurance
Price: It is more expensive than level term life insurance. However, when you weigh the pros of permanent life insurance vs the cons you can make a decision in your own best interest which type of coverage is best for you.
Longevity: A pro and con of permanent life insurance is the longevity. It is a pro because you can keep the coverage your entire life. However, this can also be a con if you decide you no longer need a policy you have been paying into for years. The good news is there are alternatives to cancelling life insurance.
Different Types of Permanent Life Insurance
Permanent coverage, as opposed to level term life insurance, does not end upon a specified term. Rather, the policies either last your entire life, or they are designed to either end or become ‘paid-up’ at a specific age.
The two main groups of permanent life insurance are whole life vs universal life. Each has its own pros and cons. Let’s start our discussion with Universal Life.
Universal Life Insurance
Universal Life Insurance provides greater flexibility than whole life by allowing the owner to adjust the premium and death benefit. That way you can adjust your premium payment, paying more when money is aplenty and less when money is tight.
Universal life insurance is comprised of two main components: term insurance and an accumulation or savings fund. UL policies are offered in three main categories: guaranteed, indexed and variable.
Guaranteed Universal Life Insurance
Guaranteed universal life insurance (GUL) offers lifetime protection, fixed premium payments, with a smaller price tag than other permanent policies.
You can tailor the duration of the GUL policy to end upon a certain age such as 90, 95, 100, 105, 110, and 121. By ending the policy at a lower age you can lower your premium. However, the con to doing this is you risk outliving your GUL policy.
This type of permanent life insurance builds little to no cash value. It is primarily designed to provide a permanent death benefit at the lower price. That is what makes guaranteed universal life insurance a popular choice for estate planning, such as funding an irrevocable life insurance trust.
Indexed Universal Life Insurance
Indexed universal life insurance (IUL) provides lifetime protection with a flexible premium and death benefit.
Indexed universal life offers a death benefit and cash accumulation. The cash value growth is tied to either a fixed account or market index, such as the S&P 500.
If you choose a market index, your cash is not directly invested into the market. Rather, your account is credited based on the market performance.
Most IUL policies offer a maximum cap and minimum floor. Currently, the maximum cap on most IUL policies is around 13% and the floor is around 0-1%. That means you are limited on the overall gains in a given year. However, you are also protected from market loss in a given year.
Variable Universal Life Insurance
Variable universal life insurance (VUL) provides permanent protection and cash value growth. The cash account can be invested into different asset classes to increase your return. However, this also exposes you to more risk.
Survivorship Universal Life Insurance
Survivorship universal life insurance, also known as second to die insurance, offers protection on two individuals, such as spouses and business owners. Due to the actuary numbers involved in the death of two individuals, you can often get coverage for less than if you were to insure to people individually. Further, if one of the two insured has health issues, second to die life insurance is actually easier to qualify for in most cases.
Survivorship life insurance con is that it does not payout on the death of the first insured. So if you die your spouse or business partner do not receive the death benefit. Rather, this type of permanent life insurance is designed so that your heirs receive the death benefit. As a result, this coverage is used particularly for estate planning with life insurance where a large death benefit is desired or required.
Whole Life Insurance
Whole life insurance, also referred to as ordinary life insurance, has received a bad rap over the last decade primarily due to some misunderstandings or outright “half-truths” told by so called financial experts, who would rather you stick your money into mutual funds.
And while that may be a good idea, whole life insurance is an awesome way to diversify and provide some awesome guarantees not found with other investment vehicles. Also, you should consider whole when purchasing life insurance for children. The reality is, whole life insurance has a storied history and offers some amazing benefits.
Whole life insurance offers three primary guarantees that sets it apart in the world of permanent life insurance.
Guaranteed death benefit
The policy’s death benefit is guaranteed as long as premiums are maintained.
Guaranteed fixed premiums
Whole life premiums are fixed for the duration of the policy.
Guaranteed cash value growth
The cash value in your policy is guaranteed to grow over the life of the policy at a guaranteed rate. Currently that rate averages out at around 4% over the long term. However, your return can be higher if your policy also receives dividends.
Whole life insurance dividends
Another benefit of whole life insurance is the dividend paid to participating policyholders. The dividend on many top whole life insurance companies ranges currently between 5-6.75%. Although dividends are not guaranteed, most whole life companies have offered dividends consistently over the last 100+ years, even during the Great Depression.
Benefits of Whole Life Dividends
You can use the dividends to:
- Purchase additional paid up life insurance
- Leave with the carrier and earn interest
- Pay premium payments
- Cash out
Whole life insurance with term life and paid up additions
One of the biggest knocks you will hear about whole life insurance is the cost and fees associated with this type of permanent life insurance.
One way to solve the problem of excessive costs and fees is to design your policy for maximum cash value growth, rather than maximum death benefit.
Through the use of paid up additions and a term life rider you can greatly reduce the cost and fees of the policy, including reducing the agents commission.
Your term life rider allows you to add an additional level of death benefit protection. It is much less expensive to get a large death benefit combining term life and whole life insurance, than trying to start off with only whole life. As time passes you can use the paid up additions rider to grow your death benefit and cash value.
Paid up additions allow you to purchase additional paid up life insurance with no proof of insurability. You can do this by making additional premium payments and by using your dividends to buy more coverage. Overtime your paid up additions allow your death benefit and cash value to grow so you no longer need your term life rider.