‘Universal Life Insurance, a 1980s Sensation, Has Backfired’
“A long decline in interest rates caused premiums to soar when they were supposed to stay level.” – Wall Street Journal
As soon as I read this headline in the Wall Street Journal I was surprised by how misleading it was, and decided to write a response. A little bit about me, I started my career in financial services with MetLife in 2004 at the age of 24. I spent 13 years with them until they sold their whole financial division in July of 2017. MetLife was a giant in the life insurance industry and a main player in providing the Universal life insurance product, specifically the type mentioned in the attached article. Many evenings I would make phone calls, receive calls from policy holders, or meet with policy owners to give them the bad news: Your policy is “blowing up”. This was a term we used when someone had a policy where there was no more cash and the premium was skyrocketing. Many, as you can imagine, were not thrilled to see or hear from me in this instance. We will discuss later how I was able to help most people continue their coverage, but first I’d like to discuss some basics of the policy itself.
Typically, we expect that we purchase a specific death benefit that is supposed to remain level. The cost of the 1980s era UL insurance increased each year that you aged. So if you purchased a policy pre-retirement, the insurance cost may have started relatively low, but increased slowly each year you kept it. The premiums on these products were flexible, and though they were typically portrayed as remaining relatively level, many buyers opted to start off paying the minimum amount required, which was problem number #1.
As the article explains, those products utilized a “cash account” that was based on interest rates. By design, a cash account was created by overpaying in the early years of a policy while the insurance company invested the excess dollars in a separate account with high interest rates. This cash account system was meant to offset the future increase in cost of insurance in your later years/age. It was not meant to be borrowed/loaned against indefinitely, as that only increased the odds of your policy lapsing or costing a significant amount more to continue later on, which was problem #2.
In the 1980s, interest rates were as high as 10%-13%, so UL’s illustrated very well. Many companies offered minimum guaranteed rates as high as 4%-5%, in an attempt to mitigate potential losses and keep interest rates “level.” Prospective clients should have been shown both current and guaranteed interest rate projections to keep them informed of the standing of their policy. Nowhere does it state that these high interest rates in the mid 1980s were guaranteed, problem #3.
I believe the main reason that some of these policies were imploding, was a combination of some suspect sales tactics, clients ignoring the facts of their policy as one couple admitted to in the article, along with not paying high enough premiums in the early years, and/or borrowing against the cash value.
Now that you have a broader understanding of 1 type of older universal life insurance, lets discuss what I did to help people who fell into problem 1,2 and/or 3. First, running an in-force illustration for these older polices based on current and guaranteed interest rates shows roughly when the policy will lapse, unless you increase your premium payment. If a client is in a situation where in 5 years they may need to pay triple the amount they are paying now, we discuss what other options they have. Many still had some amount of cash value in their policy.
Depending on 2 main factors: age and health, the cash could be used to help fund a new UL with a guaranteed premium payment that would not increase. Unfortunately, there were many people who didn’t open up their annual statements that showed their policy was in danger or didn’t meet with an advisor every year to make sure they were on track or able to take out loans. The majority of people in this article fit into 1 of those 3 categories, and when there is no cash value left, and they are too old to qualify for a new policy, it seems like the policy failed them. This is why it is important to work with a trusted advisor and meet, at least, annually to discuss any changes in your situation or health, and to make sure your current plan is still in line with future goals.
Today there are many variations of Universal Life, which are much more robust with stronger guarantees and the ability to grow cash value in numerous ways. A Guaranteed* UL is designed for someone who wants inexpensive permanent life insurance with a level premium. Pick an age you want it to last to and pay the level annual premium, simple as that. However, there is another type of UL that I’ll mention briefly as it is one that I use a lot for people that want a potentially higher cash value and tax advantages. An indexed universal life** policy is used for people between 25-55 who want life insurance but also the ability to grow significant cash value to be used in the future to supplement retirement income with tax advantages when used correctly. The premiums are generally higher to generate more money in the cash account. But here is the neat part—the cash account invests in an index like the S&P 500. You have a floor, typically 0%, and a cap of 10%-12%, depending on the company.
For example: if you started in 2008 when the S&P 500*** dropped around 37%, you would have lost 0% as that is your floor. When it went up in 2009 almost 27% you would have netted 10%-12% as that is your cap. These policies can generate significant amounts of tax efficient cash flow to be used later in life to supplement your retirement or even pay for your child’s college education, as my father did with mine.
There have been many changes in the financial service industry over the years. The main take away is to work with a trusted advisor and meet annually to update your plan as needed. There is no one size fits all solution as each individual has different needs and goals. Here at Sapers & Wallack, our approach is to design plans unique to each clients’ objectives and goals and to service them regularly.