In October, we passed the 90th
anniversary of “Black Tuesday,” the ruinous stock market crash of 1929.
The financial industry has come a long way
since then. Human psychology has not. We still worry about market downturns. On
the other hand, financial professionals remind us that it should be just as
worrisome when our assets earn less than the rate of inflation.
This is how indexed universal life insurance
(IUL) is proving its resolve well beyond its primary mission to provide tax-free
death benefit protection.
It can help protect the assets in the cash value as well.
Charlie is 57 with a wife and two teenage kids
and works as a security consultant. He gets paid to prevent bad things from
happening to his clients. And he doesn’t want bad things to happen to him, his
family or his financial strategy.
Charlie is like so many other careful planners
who are cautious about the market’s volatility, especially when losses can hurt
his market-based assets earmarked for retirement. That’s why he’s also funding
his IUL policy at a high level with the intention of using the cash value to
help supplement his retirement income using policy loans and withdrawals, or a
life insurance income rider.
Frankly, he just wants to sleep
well at night, knowing his financial
strategy has his back.
Potential, Downside Protection
It may sound like a fairy tale, but interest
crediting potential based in part on a market index with no downside due to
market volatility is very real and easily accessible through an IUL policy.
The index crediting options you choose within an
IUL policy are credited interest based in part on the movement of their respective
indexes. In the end, different factors determine how much interest is credited,
and the 0% floor
guarantee helps protect the cash value in that index from market losses at all
My prior blog post outlined IUL’s key features. Now, let’s dive deeper into several
types of crediting options and how they differ yet complement each other.
Generally, they’re categorized as follows:
market indexes – These include domestic
indexes, like the broadly known S&P 500 benchmark, more specialized
indexes such as the small-company focused
Russell 2000, or
globally leaning indexes that track, for example, stocks traded on exchanges in
other countries. These track the returns of broader, globally diversified
- Proprietary Indexes – Banks and other financial institutions will
create their own index strategies to offer to insurers, often exclusively, for
IUL products. They can be comprised of carefully selected holdings diversified across
asset classes like stocks, bonds, real estate and cash, geography, or all of
Indexes – These indexes
have a primary goal to manage extreme ups and downs. They typically track a hand-picked basket of diverse asset classes,
such as stocks, bonds, real estate, commodities, cash and more. They apply
proprietary algorithms to seek assets that appear to be less volatile than the
market in general. The goal is to limit high volatility and seek a smoother
ride. Remember Cautious Charlie? This crediting option is generally designed
to address market skittishness like his.
- Cap Focus Strategy – Caps are simply the stated maximum interest that will be
credited no matter how high the index goes.
A Cap Focus Strategy may either have no cap or a much higher cap vs.
other options, and will typically also provide a guaranteed minimum cap. This strategy is generally geared to those
who are bullish on the index.
- Participation Focus Strategy – Participation Rates determine the max percentage the strategy will share in the positive changes of its index. So, if the S&P rises 10%, a 60% participation rate for an S&P indexed option would limit the credit to 6%. This option generally appeals to those with a moderate index outlook.
- Higher Minimum Floor Strategy – Most crediting strategies come with a built-in 0% floor guarantee, no matter how low the market goes. However, for a little less upside potential, some IUL products offer higher floor guarantees, such 1%, for even more guaranteed interest crediting.
Term Strategy – This
option earns a specific rate of interest that the insurer declares, credited
daily, and guaranteed for one year. You’re not getting the benefit of the
interest crediting potential based on indexing, but it’s another option to add
a more conservative wedge to your overall crediting strategy.
you choose a crediting strategy, your index credits don’t go to the policy’s
entire cash value. Rather, they are applied to individual indexed segments.
segment is created when premiums (after policy expenses) are swept into your
A common time-period for a segment is about 12 months, at which point the
insurer compares the value of the index at the beginning to the ending date of
the segment (typically called a point-to-point
is a key point, because over the years your policy can experience and benefit
from a lot of segments, each getting its own credit amount. The process helps
spread out interest crediting over different cycles that an index might
Which Index Strategy is Best?
I can’t go there. It’s up to you and your financial professional. It depends on your
objectives and tolerance for risk and your market outlook, to start with. Because
no one can predict how
the markets and indexes will perform, understanding how different strategies
work can help you decide which ones to choose at any given time. But just having options
really lets you potentially benefit from different approaches, asset classes,
geographies and market conditions over time.
universal life insurance policies do not directly participate in any stock or
 Internal Revenue Code § 101(a)(1). There are some exceptions to this rule.
Please consult a qualified tax professional for advice concerning your
The use of cash
value life insurance to provide a tax-free resource for retirement assumes that
there is first a need for the death benefit protection. The ability of a life insurance contract to
accumulate sufficient cash value to help meet accumulation goals will be
dependent upon the amount of extra premium paid into the policy, and the
performance of the policy, and is not guaranteed. Policy loans and withdrawals reduce the
policy’s cash value and death benefit and may result in a taxable event.
Withdrawals up to the basis paid into the contract and loans thereafter will
not create an immediate taxable event, but substantial tax ramifications could
result upon contract lapse or surrender. Surrender charges may reduce the
policy’s cash value in early years.
The 0% or 1%
“floor” provided by an indexed universal life insurance policy ensures that
during crediting periods where the index is negative, that no less than 0% or
1% interest is credited to the index strategy.
However, monthly deductions continue to be taken from the account value,
including a monthly policy fee, monthly expense charge, cost of insurance
charge, and applicable rider charges, regardless of interest crediting.
 “Standard &
Poor’s®”, “S&P® ”, “S&P 500® ”, and “Standard & Poor’s 500™” are
trademarks of Standard & Poor’s and have been licensed for use by National
Life Insurance Company and Life Insurance Company of the Southwest. This
Product is not sponsored, endorsed, sold or promoted by Standard & Poor’s
and Standard & Poor’s makes no representations regarding the advisability
of investing in the Product. The S&P Composite Index of 500 stocks (S&P
500®) is a group of unmanaged securities widely regarded by investors to be
representative of large-company stocks in general. An investment cannot be made
directly into an index.
 The Russell 2000 Index
is a trademark of Russell Investment Group and has been licensed for use by
Life Insurance Company of the Southwest. The Products are not sponsored,
endorsed, sold or promoted by Russell Investment Group and Russell Investment
Group makes no representation regarding the advisability of purchasing the
 Indexes based on international securities are subject to political
influences, currency fluctuations and economic cycles that are unrelated to
those affecting the domestic financial markets and may experience wider price
 There is no guarantee that index objectives will be met. An Index with volatility control may
experience positive Index value change less than that of similar indices that
do not include volatility control. This may result in less interest that will
be credited. When included in a fixed
indexed life insurance policy with the protection of a 0% or 1% floor, the
benefit of reduced downside will not be realized for index returns below 0% or
Occurs after 12
months of policy expenses are held separately in a fixed account.
This helps reduce
interest rate risk associated with one annual crediting anniversary, but it
does not, however, guarantee an advantage over an annual crediting method.