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Permanent Life Insurance
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.
|Benefits||Cash Value?||Notable Riders|
|Whole Life||Guaranteed Cash Value, Guaranteed Death Benefit, Guaranteed Level Premiums, Potential Dividends||Yes, potential early high cash value growth when properly designed||Guaranteed insurability rider, Paid up additions, Term rider, Waiver of premium|
|Guaranteed Universal Life||Fixed returns with flexible premium payments|
Some cash value but limited. Structured more for the lifetime death benefit.
Waiver of premium, Guaranteed insurability, No lapse guarantee
|Indexed Universal Life||Indexed to stock market for potentially higher returns than Whole life; guaranteed floor to protect against market loss|
Yes, potential for early high cash value growth based on indexing of the stock market performance
Accelerated Benefit, Waiver of premium, Long term care, Disability, Guaranteed insurability, Chronic illness
|Variable Universal Life||Investment account tied to the market; growth based on market returns; potential losses based on market sell offs|
Yes, potential for early high cash value growth based on performance of the stock market
Waiver of premium, Long term care, Disability, Guaranteed Insurability, Adjustable term rider, Overloan lapse protection, Guaranteed minimum accumulation (protection against market loss)
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Pros 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.
This is something to consider. Suppose you secured a $100,000 whole life policy today. But over time your policy's death benefit will grow as your cash value grows. That way, the older you get, the more valuable your policy becomes. It is also a good hedge against inflation, as today's dollar will be worth significantly less in the years to come.
Further, with an ever increasing death benefit fueled with paid up additions you have the freedom to spend down other assets, take out a reverse mortgage, etc. without fear of denying your kids an inheritance. Your death benefit can be used to pay off the reverse mortgage or replenish diminished cash accounts.
Limited Pay Life Insurance
And there are some types of permanent life insurance where you can stop making premium payments and still enjoy the advantages of permanent coverage, such as 10 pay whole life insurance. That way you have an ever increasing death benefit and cash value account that you no longer have to make premium payments on.
Withdrawals and Policy Loans
As your cash value grows you can either withdraw your cash value or take out a policy loan. Having cash value at your disposal is a great way to supplement your retirement income.
Life insurance loans are income tax free. And a life insurance policy loan is generally not considered when factoring your taxation on your social security benefits.
Another benefit of permanent life insurance is when you use it in conjunction with infinite banking. If you are not familiar with the infinite banking concept 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, bank on yourself, or some of the other names it goes under, this concept is worth checking out.
Tax benefits of Permanent Life Insurance
Another permanent life insurance pro is that the tax code provides many benefits to permanent coverage, 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.
Tax free withdrawals: You can also withdraw money from your policy income tax free. One requirement is you cannot withdraw above your basis in the policy, which is loosely defined as how much you have contributed into the policy via premium payments.
So those were permanent life insurance pros. Now let's discuss a couple of the cons.
Cons of Permanent Life Insurance
Price: It is more expensive than level term life insurance. At least initially. But consider the fact that 98% of term life expires worthless. If you bought a 30 year term when you were 40 and now you are looking to buy another term policy at age 70 it may be completely cost prohibitive.
Alternatively, if you were to buy a 10 pay policy at age 40 you would have permanent coverage with no more premiums due after age 50. And if the policy was designed correctly, with a focus on cash value growth, as opposed to an initial large death benefit, the policy's cash value and death benefit will continue to grow as you age, providing a larger death benefit and more cash value to use in retirement.
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, such as selling your policy, withdrawing the cash value, or taking out a policy loan.
So those are the pros and cons of permanent life insurance. When you weigh permanent life insurance pros vs cons you can make a decision in your own best interest which type of coverage is best for you.
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.
A universal life insurance con would be that the cost of insurance increases every year since you are basically buying annual renewable term. But this can be countered by a growing cash value which helps limit the net amount of risk in the policy. Therefore, it is important that your UL policy is designed in such a way as to maximize cash value growth to help limit or entirely negate the ever increasing cost of insurance.
Another universal life insurance pro is that certain companies offer different death benefit options. You can elect to have a standard "fixed" death benefit that remains the same or you can choose to have an increasing death benefit that grows as you age. And with the flexibility of UL policies, the death benefit option can be changed.
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. The fixed premium protects the estate plan from going bust if the policy suddenly needs a large premium payment to protect it from lapsing.
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, the NASDAQ 100, EUROSTOXX 50, MSCI Emerging Markets, DJIA, etc.
If you choose the fixed account, you are given a guaranteed floor, typically around 2-3%. That means even in a year when the market is producing negative returns your policy will still grow.
If you choose a market index, your cash is not directly invested into the market. Rather, your account is credited based on the chosen equity 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.
One indexed universal life pro is that you can structure the policy to achieve high early cash value growth. If the markets are accommodating, you can see strong returns early on that will allow you to borrow from the policy and put your money to work.
Further, some policies provide wash loans that allow you to take out a loan at the same rate your cash is being credited.
Variable Universal Life Insurance
Variable universal life insurance (VUL) provides permanent protection and cash value growth. A variable life insurance pro is that your cash account can be invested into different asset classes to increase your return. However, the con of variable life is that investing in these equity accounts also exposes you to more risk.
Variable universal life is a great option for someone who wants to try and maximize the potential market returns through direct investment into the markets in a tax deferred, tax advantaged environment. Those who are successful at doing this can create quite an amazing wealth building machine.
However, the flip side is the policy loses money due to the investments not performing and the policy lapses. This can lead to further problems as it may create a taxable event. Buyer beware.
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 two 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 that trying to get life insurance with health issues on just one person.
A 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, also referred to as ordinary life insurance, has a storied history and offers some amazing benefits. Unfortunately, it has received a bad rap over the last two decades 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.
The common mantra of buy term and invest the rest originated with the founder of Primerica, who used this slogan to become the #1 seller of life insurance. But one trend to consider is that more than ever people are retiring with little to no savings. Whole life insurance acts as a forced savings account. Perhaps this advice has caused more harm than good?
And while it may be a good idea for some to buy cheap term life insurance, whole life insurance is an awesome way to diversify and provide some fantastic guarantees not found with other investment vehicles. The product is non-correlated, which means it does not follow the stock market. Rather, it is a safe place to store money that can provide needed liquidity when cash is tight.
Also, you should consider whole life insurance for children. Particularly as opposed to college savings plans, such as the 529 Plan.
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 5-6.5%. Although dividends are not guaranteed, most whole life insurance from mutual 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
- Repay policy loans
- 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. However, what these critiques gloss over is the higher fees and commissions paid to mutual funds salesmen.
Whole Life Insurance Pro: Design
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. While you are young you should focus on building as much cash value in your policy as possible. One way to achieve this is with paid up additions.
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 writing 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.
Is Permanent Life Insurance an Asset?
Permanent life insurance is an asset. Your policy builds cash value which grows over time. You can use the cash value as collateral for a loan, such as a small business loan, or you can borrow against the cash value to purchase other assets. If the asset has a decent yield, you may even find that you can create positive arbitrage with your permanent life insurance policy loan.
So, what are you waiting for? Give us a call today or visit our Life Insurance Quotes page and see what we can do for you!