An insurance agent who is a “believer” in the value of index universal life insurance sent me an illustration for what he considered to be the best Index Universal Life Insurance (IUL) policy out there. “Best” was defined as having the best annualized return on the cash value. I thought it might be interesting to look at it. I've written before about IULs, and I'm not a big fan. There are a lot of moving parts, and the devil is in the details. I'm not a big fan of cash value life insurance of any type, but if you want guarantees I think whole life is the way to go. If you want the maximum possible growth in a life insurance policy, I think a good VUL is the way to go. If you just want a permanent death benefit, a guaranteed no-lapse universal life policy is probably best. Most people, myself included, have no need to purchase one of these policies, and once they understand how they work, usually no desire to purchase one. At any rate, let's look at Index Universal Life Insurance.
How Indexed Universal Life Insurance Work?
The theory behind IUL is that you get some of the benefit of investing in stocks with none of the downside. So if the market is down, you get some guaranteed interest rate applied to the cash value (not the premiums paid) of your policy. If the market is up, you get some portion of the rise. The problem is that portion may not be anywhere close to what the stock market actually delivered since these policies generally don't consider the dividends, have a cap on the maximum rate, and sometimes (although more commonly with annuities than insurance) have a “participation rate” less than 100%. In addition, there are many different ways that these policies “lock-in” stock market gains, and since they haven't been around very long, hypothetical results rely heavily on back-testing, with its numerous methodologic issues well-known to physicians who have looked at retrospective studies.
Add in the costs of the insurance (not insubstantial if you're older, sicker, or have dangerous habits like I do), the fees, and the commissions, and you're looking at returns that are likely to be similar to a whole life policy, but could either outperform it or underperform it. That means, if you're one of the 20% of people who actually hold on to the policy for the rest of your life, that your returns will be somewhere between the 2% guaranteed and the 5% projected returns.
The big selling point of these policies is “stock-market like returns without any downside risk.” Wouldn't we all like that? There's a reason it sounds too good to be true.
Indexed Universal Life Insurance Illustration
The illustrated policy sent to me demonstrates this well. This is a Midland National XL-CV4 policy, which is designed to get you as much cash value as possible. This particular illustration is for a healthy 30 year old male making annual premiums of $5500. It has a guaranteed crediting rate of 3% (note that this guaranteed rate is much lower than the typical non-guaranteed 6-8% crediting rate in a whole life policy.) Also remember that the crediting rate (similar to dividend rate on whole life) is NOT the return on your premium dollars. The illustration also shows that the current cap rate on the policy is 14.5%, but that the company has the right to reduce that as low as 4% at their sole discretion (that seems fair, right?). This is NOT a bad policy, by the way. It's a pretty good one as these go. There are plenty out there that are much worse. The minimum participation rate is 100% (so you get 100% of the change in the index up to the cap rate.) It also only costs you a net 1.25% to borrow your own money in the first five years, and then 0% after that. Many policies charge more. And of course, the crediting rate is benchmarked to the index return only, not including dividends. So, what returns can you get out of this policy?
Indexed Universal Life Insurance Guaranteed Returns
People buy IULs for the guarantees. If they were willing to take on the risk of losing money, they'd just buy index funds. So what minimum return does the company actually guarantee?
| Year | Premiums Paid | Cash Value | Return |
| 1 | 5500 | 1341 | -75.6% |
| 5 | 27500 | 21940 | -7.44% |
| 10 | 55000 | 50671 | -1.50% |
| 15 | 82500 | 83074 | 0.09% |
| 20 | 110000 | 116739 | 0.56% |
| 25 | 137500 | 154043 | 0.86% |
So, after the first year you have a 76% loss. That's pretty typical for life insurance. That money is paying for insurance but mostly going to the agent who sold it to you as the commission. What is astounding, however, is that it takes 15 years just to break even, on a nominal basis. Even after 25 years you haven't broken even on an inflation-adjusted basis. Heck, you can get that kind of a return out of a high interest bank account even at our historically low interest rates. Basically, the guarantee they're selling (“you can never lose money”) isn't worth much at all. Now, I'll be the first to confess that you'll probably do better than the minimum guarantee, but it wouldn't surprise me to see you a heck of a lot closer to minimum guaranteed return than to the return of a good Total Market Index Fund. Let's look at how much better you might do with this policy. The illustration has two other categories, one with a consistent 4% crediting rate and one with a consistent 8.6% crediting rate, both using current insurance charges (which the insurance company is also allowed to change, by the way.) Here's how they stack up over the same time periods.
Possible Returns
4% Crediting Rate
| Year | Premiums Paid | Cash Value | Return |
| 1 | 5500 | 1472 | -73.2% |
| 5 | 27500 | 22938 | -5.99% |
| 10 | 55000 | 50671 | -1.50% |
| 15 | 82500 | 99345 | 2.29% |
| 20 | 110000 | 153083 | 3.05% |
| 25 | 137500 | 218859 | 3.41% |
All right. I tie my money up for two and a half decades to get a return of about the rate of inflation, and I'm underwater, even on nominal terms after the first decade. Forgive me for not getting excited.
8.6% Crediting Rate
| Year | Premiums Paid | Cash Value | Return |
| 1 | 5500 | 1712 | -68.9% |
| 5 | 27500 | 26852 | -0.79% |
| 10 | 55000 | 71479 | 4.71% |
| 15 | 82500 | 146800 | 6.91% |
| 20 | 110000 | 259954 | 7.63% |
| 25 | 137500 | 432603 | 7.98% |
Now we're getting somewhere. There's no reason someone can't be excited about a 7-8% return. It isn't guaranteed, but it might be all that many people earn on a traditional stock/bond portfolio.
There are a few things we can learn from these two illustrations. First, you still have a negative return for years, even if you get a better crediting rate. With a 4% crediting rate, it's still going to be 12 years to your break even point. With a 8.6% crediting rate, it'll be about 6 years. They say “you can't lose money” but apparently that doesn't include the first 6-15 years. Second, even with the higher 4% crediting rate, you're still only looking at long term returns around the rate of inflation. Even with the maximum rate they're allowed by law to illustrate, 8.6%, your long-term returns are still under 8%. Long-term returns on the Vanguard 500 Index Fund (since inception) are currently 11.05%. The difference in your money growing at 7.98% vs 11.05% over the long run is astounding. If you invested $100K at 7.98% for 25 years, you'd end up with $682K. At 11.05%, you'd have $1.37M, or over twice as much money. That's the price of investing with an insurance company, I suppose.
What Is Your Crediting Rate Likely To Be?
So, as you can see, it really all comes down to what the crediting rate ends up being and how the insurance costs change. Some of this is under the control of the insurance company, since they can reduce the cap and increase the insurance costs at their own discretion. It really requires a great deal of trust in that single company to put any significant portion of your portfolio into one of its portfolios. Some of your return, of course, relies on market returns. Let's just hypothetically say they leave the cap where it is (a big assumption) and don't change the costs of insurance (another big assumption) and look at what the crediting rate would have been over the last 25 years using their “annual point to point” method (they do offer other methods with various changes in the other terms of the policy) assuming a January 1 anniversary date when all the resetting occurs. Keep in mind that many wise people believe future market returns will not be similar to what we have experienced over the last 25 years.
We'll start in 1989 and go through the end of 2013.
| Year | Total Return | Index Return | Crediting Rate |
| 1989 | 31.69% | 27.25% | 14.50% |
| 1990 | −3.10% | −6.56% | 3% |
| 1991 | 30.47% | 26.31% | 14.50% |
| 1992 | 7.62% | 4.46% | 4.46% |
| 1993 | 10.08% | 7.06% | 7.06% |
| 1994 | 1.32% | −1.54% | 3% |
| 1995 | 37.58% | 34.11% | 14.50% |
| 1996 | 22.96% | 20.26% | 14.50% |
| 1997 | 33.36% | 31.01% | 14.50% |
| 1998 | 28.58% | 26.67% | 14.50% |
| 1999 | 21.04% | 19.53% | 14.50% |
| 2000 | −9.10% | −10.14% | 3% |
| 2001 | −11.89% | −13.04% | 3% |
| 2002 | −22.10% | −23.37% | 3% |
| 2003 | 28.68% | 26.38% | 14.50% |
| 2004 | 10.88% | 8.99% | 9% |
| 2005 | 4.91% | 3.00% | 3% |
| 2006 | 15.79% | 13.62% | 13.62% |
| 2007 | 5.49% | 3.55% | 3.55% |
| 2008 | −37.00% | −38.47% | 3% |
| 2009 | 26.46% | 23.49% | 14.50% |
| 2010 | 15.06% | 12.64% | 12.64% |
| 2011 | 2.11% | 0.00% | 3% |
| 2012 | 16.00% | 13.29% | 13.29% |
| 2013 | 29.60% | 32.39% | 14.50% |
So, you can see that even with the relatively high cap rate of 14.5%, you would be capped out in 10 years, or 40% of the time. If that cap were decreased to say, 9%, that would increase to 13 years, or over half the time and if it decreased to the guaranteed minimum of 4%, that would occur in 16 of 25 years. The minimum 3% floor kicked in 8 times, or nearly 1/3 of the time. Over this time period, the annualized (geometric, not arithmetic) return of the S&P 500 Index fund would be about 9.04%. The average crediting rate over this time period for this policy (which didn't exist in 1989, by the way) would have been 9.17%, slightly HIGHER than the return of the S&P 500 Index Fund. But remember the crediting rate IS NOT your return, especially in the first decade or two, because of the costs of the insurance and fees.
So what would your return be if your average crediting rate were 9.17% for 25 years? If the insurance costs stayed the same, it would be slightly higher than the 8.6% scale illustrated above. You'd break even around 5-6 years, be approaching 5% returns at 10 years, and have returns of over 8% at 25 years. Any objective observer has got to admit that while that doesn't look particularly attractive in the short term, it is pretty good in the long run (although still significantly less than you could have made just buying an index fund instead.) But always remember the assumptions. We're assuming you're healthy and easily insured, that the insurance company doesn't raise the cost of the insurance and that the insurance company doesn't lower the cap rate. Also bear in mind that this is a pretty good policy, and far better than many I've seen out there. When you buy a policy like this, you're making a bet that requires a lifetime of trust in the insurance company NOT to change the deal, because the guaranteed returns are terrible.
Of course, there is also the issue of the fact that even without ever giving you a negative crediting rate, the insurance policy still underperformed an index fund by 1% a year. At $5500 per year, an additional 1% of return each year adds up to having a 17% larger portfolio ($508K vs $434K) after 25 years. (Yes, it would be a little less after tax, but an broad market index fund is awfully tax-efficient and taxes shouldn't add up to 1% of return.) So even one of the best IULs out there, with some rather generous assumptions and covering a period of time including some of the greatest bull markets in history and some terrible bears, still lags behind an index fund.
As you can see, your short term money doesn't belong in an insurance contract since you will have a negative return. Your long-term money is also likely to do worse in an insurance contract than in riskier assets. So the reader is left with the question, “What money DOES belong in an insurance contract?” None of mine, that's for sure (and that's ignoring the fact that my insurance cost would be far higher than this policy illustrates.)
What do you think? Were you surprised that the potential returns could be as high as this illustration and my example show? Do you own an IUL? Are you happy with it? Why or why not? Comment below!
Regards to IUL returns, I did look at the last 30 year returns for SP500 index and IUL which tracks the SP500.
With 11% cap rate and 1% floor the numbers look as below. The IUL CAGR is 6.9%
https://postimg.cc/G9rYNMmP
The iul return for a 20k/year policy based on 6.9% index credit+bonus is 1.785 M
https://postimg.cc/w3TMLnBr
https://postimg.cc/qz6kGrH1
If I put the same amount in Vanguard SP500 fund or bond I get 2.94 M and 1.34 M respectively
https://postimg.cc/ctQFs68D
With tax (30% fed+state) my net return from SP500 is 2.058 M
From my perspective, decision to buy IUL was based on the SP500 2M vs IUL 1.8M and the IUL replaces my bond portion of portfolio
This is not for every one.
Do your math and your own due diligence
Good luck getting 6.9% out of an IUL in just 20 years. Did you read the article I linked to? If so, I’d read it again to realize how low the likelihood of getting that is.
Also, be careful not to overestimate your taxes. I don’t know your tax situation, but 30% for LTCGs and qualified dividends is going to be pretty hard to get to with a mere $3M. I assume you have a much larger portfolio than that or some other huge income source to get into the 23.8% bracket in retirement. Otherwise, you probably ought to dial that tax rate down a bit. Also consider that a significant part of that mutual fund return is going to be basis, which isn’t taxed. And this all assumes you’re already maxing out all your available retirement accounts and only making the comparison with a taxable account.
If you take all that into consideration, I think your comparison looks a lot worse.
Obviously low return IUL compares well to low return bonds, but only in the long run. Bonds are much better in the short run.
Valid and good points. I did read the blog by the insurancepro and since he doesn’t share the assumptions and math, I am not sure what to make out of it. Anyways, I am holding the IUL tiger by tail for the next 20 years and no second guessing :-). The tax benefit is over calculated and has to be reduced. The IUL investment per year makes up ~22% of my overall investment per year. I do max out the 401k, Roth IRA, HSA, backdoor IRA.
I am keeping track of the IUL yearly credits and below is my actual credits for the year. As you can see I got 7.2% credit while the actual index grow by 7.6% (no dividends). So I trailed by 0.4% which is not bad.
https://postimg.cc/sv2x6Hvp
I am still working on my index allocation strategy and based on the current cap rates, I am planning to do the index allocation as below.
The SP500 index annual point-to-point growth for the next 20 years, can fall into 3 different buckets
1) negative or zero growth in a year
2) Index growth from 1-10.5%
3)Index growth of 10.5% +
From an IUL credits perspective, the above buckets will credit as below
1) negative or zero growth in a year -> 0% credits or I can allocate some money to “fixed interest credit” which is 3.5%
2) Index growth from 1-10.5% -> 140% PAR index will give 1.4x returns with cap of 10.5%
3)Index growth of 10.5% + -> Annual spread (3.5%) will give me uncapped credits -3.5 %
I am yet to finalize what % of my annual contribution to IUL policy, should go across three buckets.
In summary getting 6.9% credits per year for 20 years, depends on how SP500 index annual growth will be in the next 20 years.
If SP50O index growth falls in bucket #3, for 8 years, during the 20 year timeframe, I am confident of 6.9%.
Wow 22%. That’s a pretty good chunk. I hope it works out well for you. But honestly, I do expect a long-term bond-like return. If you’re happy with that then it’ll probably be fine.
I don’t really care about all the moving parts (credits, indexes etc). They just make everything harder to evaluate. At the end of the day (or really the lifetime), you’re going to end up with whole life like returns.
You do realize the credit, like whole life dividends, is not the same as your return due to the costs of the insurance (including commission) right? The credit only applies to the existing cash value, not the total premiums paid. Perhaps that’s why you and the insurance pro guy are coming up with different numbers.
22% of new investment per year in IUL. IUL makes up only ~5% of the total invested assets. IUL is complex with so many moving parts and too many choices and decisions to make
I did a backtest of the IUL I have against VFINX (Vanguard SP500) and VBMFX (Vanguard total bond fund) . Look back is from 1985-2018. Assumption is I put $20K per year starting 1985 for 20 years and then compare cash value of IUL against VFINX and VBMFX growth for same time period.
To do the back testI pulled the SP500 historical annual returns from below site which have data from 1928.
https://www.macrotrends.net/2526/sp-500-historical-annual-returns
VFINX and VBMFX growth data came from portfoliovisualizer.com
All the IUL policy premium was paid into the SP500 uncapped index segment with a 4% spread and 0 % floor. IUL growth was calculated considering COI and policy charges.
The below spreadsheet have the data, charts and calculations
https://docs.google.com/spreadsheets/d/1Q3owEJ21p9g0oW7yT0p3llqlIm9iUVW9bH_Lb80PxzE/edit?usp=sharing
As per my back test, by the end of 2018,
VFINX grew to $4.1M,
IUL grew to $3.45 M
and
VBMFX grew to $1.34 M
A bit surprised with strong performance of IUL. During 2008-2011, the IUL cash value was higher than VFINX.
To make sure 1985-2018 was not a unique period, did a 35 year rolling average calculation of SP500 index growth and IUL credits. Rolling average was done from 1962-2018. Didn’t find anything unique about 1985-2018 period.
Anyways, what matters is how the IUL will perform for next 20 -35 -50 years.. I can post my actual returns here every year to share.
It’ll be fun to watch in real time. Best of luck to you. At least you’re going in with your eyes far more open than most who buy these.
I got my annual statement. As promised, below are the actual numbers for the last one year.
https://postimg.cc/HVcy6133
My index credit annual return was 9.5 % for a total of $1753 . The insurance company charged me $2717 in policy charges and $732 for insurance. The net return for this year is – 9.2% from the beginning account value of $18,282.
Remind us again what year of the policy you’re in and your annualized return since purchase.
I got my annual statement for 2020-2021. As promised, below are the actual numbers for the last one year.
https://postimg.cc/jL20WPYL
My index credit annual return was 7.7 % for a total of $2937 . The insurance company charged $2840 in policy charges and $805 for insurance. The net return for this year is – 1.8% from the beginning account value of $38,027.
Completed 3 years so far. Paid $64,320 in premium, account value is $58,758 excluding surrender charge. Net return -2.8% per year . I think think by 2025, the net return will be trending positive
Thanks for the update.
Update for 2022.
Can’t believe a year has already passed !
Signed up for IUL in Feb 2018 and the accumulated value now matches with the premium paid .
$85,860 paid in premium. Accumulated value at $85,469
So 4 years to get the premium paid to match with accumulated value. The covid dip and rise helped with the returns.
https://postimg.cc/TL2gXzth
I guess starting this year the net return may likely turn positive.
4 years is actually pretty good (but I guess stock returns have been strong). Glad you’re happy with it so far.
2023 update. 5 years of paid premium.
$107,300 paid in premium. Accumulated value at $104,353
2022 was bad in terms of return.S o after 5 years of paid premium, the accumulated value is -2.8 % less than paid premium.
https://i.postimg.cc/DZsXS11L/Screen-Shot-2023-02-20-at-8-29-04-AM.png
Thanks for the update. Almost broke even.
2024 update. 6 years of paid premium.
$123,880 paid in premium. Accumulated value at $120,408
https://postimg.cc/4nBmS56Q
After 6 years of paid premium, the accumulated value is 2.9 % less than paid premium.
I was hoping after 6 years the net return will start turning positive. Haven’t happened yet.
Starting this year I am not going to fully fund this IUL. The returns on accumulated value of $120K should be able to self fund the policy charges going forward. Will see if that happens
Just completed 2 years. The annualized return is -10.6 % since purchase .
Still happy with it?
It is performing as expected. My expectation is negative annual return until year 2025 ( for 7 years) and positive annual return from year 8 onwards and ~6.9 % annualized return by 2038 ( year 20)
I’ll be super impressed if your overall annualized return at year 20 is 6.9%. That’s a very good life insurance return.
Read long series of comments… Whats the conclusion?. Is IUL good or bad?
Obviously it’s not that simple given the long comments. But it’s pretty much a product designed to be sold, not bought. So bad. The vast majority of those who disagree with me profit from selling it.
Well… everything is long term commitment only. Even with ETFs, we are looking for long term goal only (ofcourse we can go out of it any time if need arises).
So I am also confused with lots of contradictory statements here..
Someone posted IUL statement here. looking at that, I dont see any benefit in early years except death benefit.. and long run we dont know what the COI/expense charges/CAP reduction/Interest rate on loans etc.. Everything this question marks?!
Only Hope is market does better!!!!
I studied IUL/WL infinite banking concepts for a couple years before I bought mine. In the process I found an agent who I was confident was able to design me the lowest drag product. I do believe in them enough to advocate for them as an agent, but I already had too many irons in the fire. I would say that if you find a few agents who you trust, ask them for referrals of their clients who have a policy that has already reached parity. Ask the clients how their product is performing vs the illustration based on market averages. The older the policy, the better the analysis.
Glad you’re happy with it. I wrote more about IB/BOY here:
https://www.whitecoatinvestor.com/a-twist-on-whole-life-insurance/
Hey WCI, big fan. Just a general question. If Im investing in an IUL as a long term asset + death benefit, it doesnt seem fair to compared a cash value insurance policy to a taxable brokerage account (assuming all other tax advantaged accounts are maxed out). I think its pretty obvious to most people that the brokerage account will outperform a cash value life insurance account even despite capital gains tax and not having a protective floor on returns given the historical performance of the stock market. These assumptions are supported by your numbers here.
However, do these advantages still stack up when you consider the costs of a term life policy that doesnt retain any cash value or return on investment?
Would love to hear your thoughts
I think it’s fair to include the cost of the insurance you actually need into your calculation. In my case, I don’t need any. If you need term, include that. If you need a permanent death benefit, include the cost of a guaranteed universal life policy. Term life until a typical FI age for one of my readers is a trivial cost and doesn’t really change the conclusions. I don’t think I’ve ever run the numbers with a GUL policy.
As far as obviousness, you’d be surprised what isn’t obvious to a lot of people, but when there are as many moving parts as a typical IUL policy, I can’t really blame them.
Remember you only get the cash value OR the death benefit, not both. Anything you borrow out of the policy is subtracted from the death benefit before it is paid out.
Hi WCI,
would really love your input on the following matter.
I think i’ve read all the WCI post regarding whole life policies and IUL including dumping the whole life policy as.
my situation is that this is my 7th/12 year with a custom whole life product for which I’ve been paying $29k every year for for a 1 mil benefit and with ~$140 in cash surrender value. I don’t think it’d wise to dump this whole life at this stage based on what I’ve read so far.
so as a compromise, I am thinking of doing a 1035 exchange in to a fixed IUL at a lower premium but same 1 million Death benefit which would not only save me the premium $$ for the remaining 5.5 years but still give me some what tax free cash flow option as the policy grows later in life (probably at 4-6% rate) per your calculations.
does this sound like a reasonable move?
would love your input and thank you so much for creating WCI!!
Sounds like a bad move to get another permanent life insurance policy because you don’t like the one you have. I’m also not sure what you mean by a fixed IUL, but UL policies have increasing insurance costs later in life so if the premiums get too low, you may not be able to keep the insurance in place later. Remember that when you get a new policy, you’re paying a new commission so it is usually a bad move. If you don’t like it, drop it. If you do, keep it.
I’m with you on Investing outside of an IUL will have better returns. That is why the majority of my investing will be outside of it. But an IUL does have some solid benefits in my opinion. 1.) The ability to leverage your cash value at any given point. This gives you the ability to invest it elsewhere while still earning interest on your money. If you invest it elsewhere you can get a loan for 1-2%. I like this ability because frankly if you have 300k in a ROTH, there’s no way you can leverage that to make more money (Real Estate,Business). There’s another option where you can take a loan and put it back into the policy. Taking a loan for 5%, having the possibility to make up to 12%. This is how you can increase your compounding yield easily by a few percentage points. 2.) The Income you Receive in Retirement from an IUL is 100% Tax Free if structured properly. Who knows what are taxes are gonna be in the future, I like having the ability to work around those if need be. These policies are flexible, if you want to change them at any point you can. With that being said, there is still risk that we may have 0% years. And that is why I will manage it regularly and shift allocations to 2% guarantees on 0% years. Even if I receive half of the income that my policy is projected I’ll be happy because 40k Tax free is like earning 50k taxed. Just some thoughts interested to see how it will perform over the years. I will and plan on leveraging it to compound the returns even more to help offset some of the off years.
Don’t expect to make 12% on an IUL. Expect more like 4%. So borrowing at 5% to earn at 4% probably isn’t a real benefit.
How long have you had yours? Are you willing to send me your initial illustration and a current in-force one?
I think he means getting a loan from his IUL and then using those funds to make 12% elsewhere. I’ve only recently had mine so not worth trying to say it’s worth it. That’s yet to be determined. But as an investor that likes to use leverage, this is something I plan to do down the road.
Thanks for posting about these notoriously awful insurance products that are misrepresented as being “investments” or “tax-free retirement income streams for life.” I litigate IUL cases nationwide and see the fraud, negligence, and misrepresentations in this marketplace that cause many of my clients to lose their life savings. Many of my clients are physicians who have been misled into a financially disastrous plan, and they reach out to us when all that they have worked for is disappearing before their eyes.
I would love to have a conversation about our work and how we may be able to help.
RGR
http://www.investorlosscenter.com
I bet bringing a firm like yours on as a sponsor may be a win-win for everyone. Contact cindy (at) whitecoatinvestor.com to get started.
I’ve reached out a couple of times but not heard back.
Interesting. I’ll get you a reply. Doesn’t mean we’ll end up working together, but there’s no excuse to at least not reply.
Cindy mentions she has replied to two of your emails in the past but never heard back from you. She’s sending you another email today. Maybe put her email on to your safe list to make sure they get delivered.