Analyzing the Cost of Universal Life Insurance

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Analyzing the Cost of Universal Life Insurance Some may suggest that a person can use a universal life plan to run a personal banking system. There are many reasons why this is not true. In fact, if the contract is understood it is a wonder that anyone would want to purchase a universal policy at all. I will point out a few reasons then illustrate the most glaring one.

Universal life is a contract that shifts almost all the risk to the insured. As you read the contract or even the illustration, take note of the many times “if” is used.

When there are guarantees, note that they are contingent on some subtle but dangerous “ifs”.

If all premiums are paid.

If all premiums are paid on time.

If all loans are paid.

If all loans are paid on time.

The results and stability of the contract has its own “ifs”.

If mortality experience remains constant.

If market rates perform as expected.

If  management and operation costs remain the same.

Where is the risk to the insurance company?

Now if all these areas remain the same then the owner is free of worries right? Wrong!

The cost of this insurance per thousand goes up each year it is owned! Look at an illustration and find the word LAPSED. It means just what it says. After a lifetime of paying premiums, when a person is most likely to need it, they have no insurance!

If that person has used the policy to bank with, they most likely created a tax bill by lapsing the policy when they can least afford it. Let’s learn to analyze the policy to see the continued increase in expense of the death benefit.

We will look at a Universal illustration for a 35 year old, buying $100,000 coverage, $1,006 annual premium, the assumed rate of return is 3% .

At age 50 the cost per thousand is $1.35.

Now follow the steps: On the illustration:

age 60 Cash Value is $26,754

age 61 Cash Value is $28,099

1- Identify rate of return the illustration is running. (3%)

2- Choose two consecutive illustration years. (I’ll use ages 60 and 61)

3- Identify the cash value of the earliest year.  (CV  age 60   =    $26,754)

4- Multiply this CV by rate of illustrated gain. ( $26,754 X .03 {3%} = $803) This $803 is the amount you would expect to have increased by $26,754 + 803 = $27,557

5- Add to this the annual premium $1,006. ( 27,557 + 1006 = 28,563) This is “your skin in the game”.

6- Find the difference of your “skin” $28,563 and the insurance CV illustration for the 61st year ($28,099). 28,563 – 28,099= $464 7- $464 was used by the insurance company to pay the insurance premium.

8 – Insurance is sold in units of $1000 death benefit. This is a $100,000 death benefit policy so we divide the annual cost ($464) by 100 (100,000 Death Benefit).  464/100= $4.64. The cost of insurance THIS year is $4.64 per thousand.

9 – To show the increase in future years, choose two consecutive years and repeat the above steps  with the new numbers. ie.-

Age 80 – 49,709

Age 81 – 49,932

You should find the cost per 1000 is $22.74

If you happen to be borrowing against the cash value can you see how this will affect the policy?

Each year the company is relying more and more on the interest from a stable cash value to keep premiums paid. By the way this policy lapses at year 93 on the assumed side and age 84 on the guaranteed side with no outside policy activity.

Oh, where are the dividends? Hmm. The stock holders get them. Not you, the policy owner. No paid up additions are offered either.

There is a minimum time the policy must be in force before the policy would not be charged for moving it using a 1035 exchange or for surrendering it altogether.

Thank you to my mentor Craig F. for educating me about UL, VUL & EIUL policies.


February 11, 2011 · Jennifer · No Comments
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