By Dr. Jim Dahle, WCI Founder
Long-time readers will probably notice I've become less dogmatic in some of my writing over the last two years and softened my tone considerably on several subjects. For example, although I still think the vast majority of self-styled “financial advisors” are thinly-veiled salesmen, I've gotten to know a few that offer good advice at a fair price. Although I think few people should ever use a whole life insurance policy, I've run into a few people who actually understand the product AND are still happy they purchased it for various reasons. I can even seen a place for reverse mortgages, despite widespread abuse among those selling them. However, one product I thought I would NEVER see a use for is variable universal life (VUL) insurance. Over the last couple of months, however, I've had a number of readers contact me with questions about a VUL being sold by Larson Financial Advisors. It seems this particular product addresses many of the concerns with VUL that I've outlined before. It is enough to make me wonder if VUL really might have a place in a retirement “quiver” for at least some physicians.
Any Financial Product Can Be Bad
The truth is that just about any financial product can be made terrible through design features that benefit the product designer and salesman rather than the consumer. Consider the investment that makes up most of my retirement portfolio- mutual funds. If the only mutual funds available had an 8% load, a 2% ER, 12B-1 fees, surrender charges, horrible active management, and a high turnover rate, then it would be easy to argue that investors should avoid mutual funds altogether. However, thanks to Jack Bogle and others, an investor can now buy every stock in the world in seconds with essentially zero turnover, no fees, and an expense ratio less than 10 basis points.
What Is Variable Universal Life Insurance?
VULs came out in the 1980s and 1990s when whole life insurance buyers and sellers realized that the relatively low returns available in whole life were getting creamed by stock market investors. Like with whole life insurance, it has a permanent death benefit along with a cash value component. The money grows inside the cash value account tax-free, and then in retirement the money is borrowed from the policy so it can be spent. Upon death, the death benefit pays off all the loans taken (and still provides a bit of money tax-free to the heirs.) Depending on your state, there may also be significant asset protection benefits for this money, and depending on estate tax laws in place at your death (and the liquidity of your estate) there may be estate tax benefits as well. Unlike whole life insurance where the cash value never goes down and is credited yearly with a dividend by the insurance company, with a VUL the investment component is invested in mutual fund-like subaccounts, and the value rises and falls with the market. The theory is that the long-term returns will be higher but you'll still get the tax-free growth, asset protection, and death benefit. Stock market returns with life insurance benefits, what's not to like?
Why Doesn't Everyone Have a VUL Policy?
The problems with investing in a VUL are basically three-fold- the investments suck, the insurance is too expensive, and insurance policies aren't designed to be retirement savings accounts. Imagine the worst possible mutual fund, and that's typically what you'll find in a VUL sub-account- poor performance, high fees, and maybe even loads. The worst part is you have nowhere else to go. Instead of having thousands of funds to choose from, you may be stuck with only 5-10, although most newer policies over 50 or even 100+.
The insurance is also too expensive, mostly due to fees. These suckers are typically loaded up with so many fees it's almost impossible to have a positive return. Aside from the ongoing fees, there is usually a surrender charge for the first few years (sometimes for as long as a decade.) The insurance company doesn't want to lose money even if you surrender the policy, and since it's already paid the commission to the salesman, it has to get that money back somewhere. To make matters worse, since every policy is different, it isn't a particularly efficient market, and the insurance itself simply isn't sold at a competitive price.
In order for a VUL to qualify for the tax-free growth and tax-free loans, it has to at least masquerade as life insurance. That means you can't cash it out without paying taxes on the gains. There has to be a death benefit. There are limits as to how much you can contribute for any given death benefit. You must pay interest on any loans you take out etc. Insurance isn't free, and money used for the insurance portion can't be invested on your behalf.
When you consider all of these issues with a VUL policy, the tax, insurance, asset protection, and estate planning benefits just can't make up for all the costs and you end up with a severely under-performing investment that becomes even worse if you want to get rid of it.
What If There Were a “Vanguard” of VULs?
Just because the typical VUL sucks, doesn't mean it isn't possible to have one that might be worth buying for some people. What would that VUL look like? Is it possible for the costs to be kept low enough that the tax benefits would outweigh them? I don't know but I'd love to see the equivalent of the constant lowering of total market ETF expense ratios we've seen over the last 5 years from the mutual fund industry.
Who Should Buy a Variable Universal Life Insurance Policy
Here are twelve requirements I'd have before considering a VUL:
#1 Excellent Investment Options
Remember you're stuck with these options for decades. If something better comes along in the investment world, you're just out of luck. So you'd better hope that the investment options are at least the best available options at the time of purchase. That means low-cost passive investments such as those offered by Vanguard, DFA, and similar companies. It would be even better if there were a brokerage option where I could purchase investments in the future that aren't even available today.
#2 Low Cost Investments
No loads, no additional fees, low turnover, and a low expense ratio.
#3 Competitively-Priced Insurance
Permanent insurance is naturally going to cost a lot more than term insurance, but is it too much to ask that the insurance be as cheap as actuarially possible? This is probably easiest for a mutual insurance company to offer, since like Vanguard, their owners are their policy holders.
#4 No Surrender Charges
Something like 80% of people cash out of their permanent life insurance policies in the first decade, guaranteeing a loss. There is certainly no point in investing in a cash value life insurance policy if you're not planning on holding the policy until death. If you cash out early, you'll lose money. If you cash out late, your gains will be taxable and you'll lose the death benefit. But if you're truly offering an excellent product to well-informed, appropriate consumers, very few people ought to be surrendering their policies in that first decade. You shouldn't have to stick them with a surrender charge in order to guarantee your ability to pay commissions.
#5 Low (No?) Commissions
Speaking of commissions, if we can have no-load mutual funds, why not no-load insurance policies. Agents like to point out that the consumer doesn't pay them, the insurance company does, but who are we really kidding here? All expenses including company profits are paid by the consumer in some way or another.
#6 Zero Percent Interest
Since the point of this policy is to act as an investment, and you know that to access your money eventually you're going to have to take out a loan, why can't that loan be offered at 0%? It would be direct recognition (I don't think this term is even used with VULs) so the money you're borrowing is no longer invested in the policy, but why should you have to pay the company interest to borrow your own money? Even if 0% interest is impossible, let's see how close we can get to it shall we?
#7 Overfunded Policy, Paid Annually
Again, the point of the policy is to act as an investment. You want to be able to contribute as much as possible to the investment component while spending as little as possible on the insurance component. That means funding it up to the “MEC line” and paying annually, or at least not penalizing the policyholder with higher premiums for paying it monthly.
These last 5 requirements have more to do with the purchaser than the policy, but they would still be requirements for me to recommend one for someone.
#8 Insurable at a Reasonable Price
I'm probably never going to invest in a life insurance policy because the costs of insuring climbers are just too high. The same issue exists for those with health problems. Mixing investing and insurance usually doesn't make sense for most people, but for some people, it NEVER makes sense.
#9 Maxed Out Retirement Plans
Remember that a very low cost VUL MIGHT make sense when compared against a taxable account, but when you're comparing it against a solid 401K or Roth IRA, it just isn't going to hold up. If you haven't maxed those out, it's frankly pretty stupid to even look at a VUL.
#10 High Dividend/Capital Gains Tax Rate
Dave Ramsey likes to call cash value insurance the “payday lender of the middle class.” The tax benefits are just dramatically less if you're not paying much in tax anyway. If you're in the 10% or 15% bracket, your capital gains rate is 0%. If you're under $200K, your rate is only 15%. That goes as high as 23.8% for an individual with a taxable income over $400K. If you're investing in something that is highly tax-inefficient, like corporate bonds or REITs, your marginal tax rate could approach 50%. That's when the tax benefits of a VUL might make up for the costs of the insurance.
#11 High Value Placed on Asset Protection, Estate Planning, or the Death Benefit
Life insurance can offer many benefits, but the fewer of these you care about the less benefit you are likely to get from investing in life insurance. If your state has a low (or no) exemption for life insurance cash value from your creditors, that aspect is useless. If you have no liquidity issues, or are nowhere near the $5M ($10M married) estate tax exemption, the estate planning aspects don't do you any good. Likewise, if you don't really care about the death benefit, why pay for it?
#12 Alternative Is Paying an AUM Fee
If you're working with an asset manager to whom you are paying an AUM fee, then a VUL becomes more attractive. The advisor would get paid by the commission you're paying anyway (at least until someone comes out with no-load insurance) and you'd save the AUM fee you'd otherwise pay on those assets.
Why I Don't Have a Variable Universal Life Insurance Policy
I'm not going to invest in even a perfect VUL. Between my 401K/profit-sharing plan, defined benefit plan, backdoor Roth IRAs, stealth IRA, individual 401K (for the blog) and other investments I want to make in 529s, UGMAs, and a taxable account (like real estate) I just don't have the money to put in to anything else. The insurance component of any product would be too expensive due to my bad habits. I also don't place much value on the asset protection, estate planning, and death benefit of permanent insurance and dislike the lack of flexibility inherent in an investment that must be held for decades. I also find a taxable account an exceedingly attractive alternative. Thus far in my life, a taxable account has LOWERED my tax bill rather than raised it, thanks to tax-loss-harvesting and donating appreciated shares to charity. I'm in a relatively low tax bracket (actually got down into the 25% bracket last year, last time I'll see that for a while) and I don't pay an asset manager. It just doesn't make sense for me.
But I've met enough doctors in real life and on the internet whose financial lives are sufficiently different from mine that they could possibly benefit from a really good VUL. Check the example below to see how it might benefit some people.
The Math of a VUL Policy
How does this work? Let's use a hypothetical example. Let's assume you put $30K a year into a perfect VUL policy over 30 years, and $3K of that goes toward insurance costs. It provides the same investments available to you in a taxable account (let's say they gain 8% a year) and you're in the top tax bracket now and in retirement, let's say dividend and long-term capital gains rate of 23.8%. You then borrow the money out at 0% in retirement. After 30 years, the cash value in the policy would be $3.06M. Now, let's compare that to a taxable account. We'll assume the investments are fairly tax efficient, perhaps a yield of 2% taxed at 23.8%, lowering your rate of return to 7.52% per year. After 30 years, you pull all the money out and pay capital gains taxes at 23.8% on it. You end up with 2.37M, $690K less. You also don't get the asset protection and estate planning benefits (if any), and the death benefit.
This whole post has been mostly hypothetical to show that a really good VUL could be a good idea for certain investors. Whether the policy being marketed by Larson Financial is really good or not remains to be seen. I've sent a draft of this post to Tom Martin, their main investment guy, and asked him to submit a guest post about it. Then we can see how close it comes to an “ideal” policy and readers can decide if something like that makes sense for a portion of their retirement money. For the rest of us, we'll continue to not mix insurance and investing.
Lurking reader (and relatively speaking, financial newcomer to the insurance question) here, and admittedly not a ‘white coat’ but rather an engineer, whose combined income with spouse exceeds allowance of Roth IRA – although I am allowed to contribute to my qualified Roth 401K (up to 18,000). I am heavily weighing a VVUL (or accumulation VUL as it is often called) with John Hancock that my advisor is suggesting – he’s someone I know well and trust personally, and he himself bought said policy for himself and his wife last year (and would be managing mine the same as he manages his own). The gist of the policy seems to outweigh a lot of the negatives you guys have brought up and I wanted to get some feedback from the skeptics of VULs:
– Zero net cost loan (2% fixed rate, 2% fixed interest credit zeroes out) after year 10.
– Costs all up front, so after year 10, policy value = surrender value – i.e. no fees on the money withdrawn.
– Specific fund fees are billed at year end and billed only on gains – most around 0.5-1.5%, depending on the fund
– 12.2K premium, $1.5M initial death benefit.
– 8% (7.31 net) growth rate assumed
– Really great investment options for the funds on the plan, with good historical growth – as mentioned, this will be managed by the advisor, not by me, and at no direct fee to me – he gets a small basis on the growth from the insurance company as commission.
– Have no intent to withdraw anything from this plan until at least 20 years from now – I’m 31 and intend to have this be a vehicle for tax-free growth to generate retirement income and plan family estate for next generations.
– I will have term coverage separately, probably a 20 year plan, to be safe in the insurance sense of things.
I have not maxed out my employee sponsored Roth (putting about 6% of salary, which is the most to take advantage of employer contributions, and will be continuing with that contribution regardless), but the big question there is that turnover in my industry is high relatively – I’d venture to guess my job changes every 5 years (so far has changed every 5 years), so the buying power of a VUL and the compound growth that comes with continuity, pretty clearly is likely to produce much better growth in comparison to potentially separate smaller balance Roth 401Ks from my various employers (which may be allowed to rollover but may also not, depending on how each 401K is written). Also assumes every future employer has a Roth 401K. Not to mention the availability of less-market-dependent funds in the VVUL allows me to protect myself better if shit hits the fan.
Main goal at the end of the day is putting money into post-tax growth vehicles, since I do believe a higher rate is likely in 20-30-40 years, and on top of that, feel that the ability to withdraw some small portion of the funds for paying for children’s college in 20 years with no interest is a huge benefit in comparison to having to take out a loan at a much higher rate, all while the vehicle continues to grow even as I do. I also plan on having a 529 as well for that purpose – again, separate of this whole stream of investment (Roth or VUL).
What sayeth the skeptics? Does this all make sense? Most people don’t go this route, and don’t think about this type of an approach so early in their age… But most people are not always making the best decisions.
Thx in advance for the thoughts!
You’ll enjoy a post coming out soon on VULs. Sounds like you might be a candidate for one, but remember this is a lifelong commitment you’re making. Research it like it is. I have seen a reasonably good John Hancock VUL for someone interested in investing through a VUL.
You should also keep in mind companies are now increasing cost of insurance on in force ULs even though agents said in past this wouldn’t happen. Makes it much harder to keep in force later on.
Are you referring to moving from the “Current” charges closer to the “Maximum” charges? Or something else?
This is what he is referring to:
https://www.wsj.com/articles/surprise-your-life-insurance-rates-are-going-up-1449225000
Yes they can move the charges for insurance to maximum if they desire. This is just another lever they can move if they arent making enough money. With old ULs they already had decreased the interest rate to the lowest guaranteed. As the article discusses, they increased cost of insurance bc of the low interest rate environment. With IULs they can also change the caps and participation rates. With VULs they can change the cost or availability of internal investments. Even if one could develop a “perfect” VUL then i would guess this would lead to lower lapse/surrender rates and this in turn could lead to the insurance company paying more death benefits which will likely result in more levers being pulled. There just isnt any magic in this world.
Wow, they can increase the cost of the insurance AFTER the fact? Wow, what a worthless product. We are going towards negative interest rates so anyone that has ‘invested’ in one of these things is going to be screwed royally. And they can change the caps and participation rates on EUILs. Why does the worthless insurance agent never tell me this when they attempt to sell me these lousy products as investments?
Yes, that’s an issue with a universal life policy except a guaranteed universal life policy. However, caps and participation issues related to IUL, not VUL.
Help please!
I had a financial advisor suggest I buy a VUL for both my husband and I. We were already maxing out all retirement funds, backdoor roths, and contributing to a taxable account so at the time I think he had good intentions. Since doing a ton of research, mostly here on the WCI and other websites, I’m not sure it’s for us and thinking it was a crappy idea. We have since fired him (after the “Fire your FA” course) and now wondering what to do. Hoping to achieve FIRE in the next 5 year or so- here are the basics
Max out TSP
Max out back-door Roth
Have Tricare so don’t qualify for HSA
New 1099 income- plan to max out Solo 401K
Any leftover into our taxable account- still moving with the military for now so don’t own a house (except for one rental we want to get rid of because we don’t like being landlords)
Put money into 3 kids 529 accounts
Still putting money into VUL (maxing it)
So based on the reading I’ve done- thinking of surrendering the VUL or transferring to a variable annuity but honestly despite my research can’t really figure out how this works and what’s best. Plan to take all the cash and put it into taxable account and essentially chock it up as a financial mistake and move on…
Here is the VUL stats- advise please on the best approach
VUL #1- $416.00 monthly
total premium- $27,912.05
monthly insurance cost- $52.56
cash value- $29,248.26
surrender value- $27,455.71
surrender penalty- $1,792.55
VUL #2- $416.00
total premium- $27,912.10
monthly insurance cost- $73.81
cash value- $28,651
surrender value- $27,192.96
surrender penalty- $1,458.85
Any advice and guidance is appreciated!
Why’d you buy it in the first place? I presume as “another retirement account.” In that case and you now don’t want it, here’s a great opportunity to walk away and at least not lose much except the opportunity cost the last few years.
But if you bought it for the insurance or the asset protection or because you liked its characteristics as an investment (and it actually has some), then maybe you want to keep it.
However, in most cases it was just sold to you and now that you’re financially literate, it’s time to lick your wounds and move on knowing the advisor hosed you for a commission whether he was well meaning or not.
yes, it was sold to me as more of a retirement account- to take money monthly in the future. i would prefer to use my money differently now and have more flexibility. . do you have any posts on annuities? i have heard you mention it in podcasts multiple times about transferring it to a variable annuity but I am not sure I completely understand the process and if that’s going to be beneficial for me or if I should just cash it out.
This post should help.
https://www.whitecoatinvestor.com/how-to-dump-your-whole-life-policy/
Obviously not about VULs, but it’s basically the same process. In your case, no point in messing around with a VA if you’re going to dump it since the basis and value are about the same.
I’m an OBGYN so asset protection is important to me.
Currently, I’m a W-2 employee with only a SIMPLE-IRA offered by my employer and I have to pay for my tail coverage. I looked into IUL, but I’m leaning towards a VUL policy offered by Midland National. Upon the advice of my agent, I’ve selected Fidelity’s Spartan SP500 fund with a cost of .015%, and Vanguards Total Stock Market Index fund with a cost of .014%. 50/50 each.
The policy is just out of underwriting and I’m a preferred plus risk, so the very lowest cost of insurance. Face amt. Min-Non-MEC with an increasing death benefit.
B/c I’m only offered a Simple_IRA, I really don’t know what else to do. Do you think a VUL structured this way makes sense for me?
Does your state offer asset protection for life insurance cash value?
Yes, I’m in Ohio, so 100% of the cash value is protected from creditors and liability lawsuits as long as the insurance is payable to my spouse and/or children.
Make sure you do all your due diligence and are 100% sure you want this the rest of your life. Report back in a few years and let us know how it’s going.
Do you agree the VUL with low-cost fund choices is a better selection than IUL?
According to my agent, the performance of the IUL looks better in later years, but when you look at the guaranteed caps it allows the insurance company to put a CAP on what you can earn. The VUL fund selections have unlimited potential, so I’d be only subject to the cost of insurance. If I dollar cost average, sticking with the same funds, down markets won’t hurt as much over the long term. Since I’m a female at preferred plus risk, I’ll be subject to the very lowest cost of insurance available.
Am I on the right right here?
Yes. Note that I don’t plan to use either.
The consternation with advisers on this thread is surprising. Educate yourself always, and its not that hard to locate a good partner. Try NAPFA.org
Does anyone have any experience with package deals from their employer to cover short and long term disability insurance, as well as life insurance with variable universal life insurance? Is it worth it ?
Well, since only one of those three insurances is generally a good idea, a package with all three probably isn’t awesome. Now if someone else is paying for it, fine, but I’d rather get a higher salary and just buy what I need insurance-wise on the open market. Then I can cancel the policies when I hit FI too.
Wondering thoughts on Kai-zen IUL. Leveraged IUL. Only pay for 5 years then let it sit and take out tax free loans during retirement years or anytime after year 15. I think it is 3x leverage.
Yes fees are high those 15 years but it isn’t a percentage. Obviously the take out the least amount of insurance they can to max out the cash value.
Anyway, I was looking at it more for the the tax benefits because maxed out all my other tax advantage accounts.
I am waiting on the prospectus but wondering if you know anyone has done an evaluation of it.
I’m not a fan of IUL and I’m not a fan of leverage in general, so no surprise that a combination of the two isn’t on my list of favored investments. Kind of like a new cryptocurrency that is somehow linked to silver. I’m not really a fan of either, so the combination isn’t any better.
More info on leveraged IUL here: https://www.whitecoatinvestor.com/financing-whole-life-insurance-premiums/
It has been 8 years since you wrote this blog. Finally a large mutual insurance company has built a VUL that checks all of your criteria for a good VUL.
> 140 investment options including Vanguard and DFA
> No surrender charges
> No sales loads or insurance charges on the infested portion
> Competitively priced guaranteed level premium for the insurance protection
> 0% interest loans
> Complete transparency
I would love to tell you more about this new product coming to the market.
First of all, this post was updated a bit here: https://www.whitecoatinvestor.com/variable-universal-life-insurance-as-a-retirement-account/
Second, feel free to tell me about this new product coming to market right here as a comment. If you want to do more than that, you might consider a guest post:
https://www.whitecoatinvestor.com/contact/guest-post-policy/