Life insurance is a pivotal part of financial planning, offering a layer of financial security for your loved ones when you’re no longer there—and some insurance options even have benefits you can take advantage of during your lifetime. Different types of life insurance cater to varying financial needs and goals. In this blog post, we will dive deep into the concept of fixed indexed universal life (FIUL) insurance, its comparison to other life insurance policies, its pros and cons, and its tax implications.

What Is FIUL Insurance?

FIUL insurance is a subset of indexed universal life (IUL) insurance, a permanent life insurance policy that builds cash value based on a stock index. FIUL provides a death benefit along with a cash value component. The unique selling proposition of FIUL is that its cash value growth is tracked to (but not actually invested in) a market index, such as the S&P 500, instead of a fixed interest rate. As long as you stay current on your premium payments, the policy will remain in effect; however, most have a maturity date as specified in the policy (e.g., age 121) in which the benefits outlined in the contract are paid out (this could be the cash surrender value or the full death benefit). There could be tax implications depending on how the benefits are paid. Some policies may allow extension if the insured person is still alive on the maturity date.

What sets FIUL apart from its indexed universal life (IUL) insurance counterpart is the ‘fixed’ element. This means the policyholder is provided with a minimum guaranteed rate of return, regardless of how the linked market index performs. Thus, FIUL offers the potential for higher earnings during flourishing market conditions while ensuring a safety net during a market downturn. Keep in mind that ‘fixed’ also means that you’ll have a cap on the amount you can earn from market returns, i.e., your total returns may not reflect actual market performance because the insurer caps the maximum return you’ll receive.

Many FIUL policies allow you to access your death benefit in the case of illness or other extenuating circumstances. You may also be allowed to borrow against your policy’s cash value through a loan or withdrawal.

Comparing FIUL to Other Life Insurance Options

FIUL differs from traditional life insurance options, including term life, whole life, and universal life policies, in various ways.

1. Term life insurance: This policy covers you for a specific term. It’s a straightforward insurance product that provides death benefits only. Term life doesn’t offer a cash value component or an investment opportunity. In contrast, FIUL offers both, making it more than just a protection tool.
2. Whole life insurance: A whole life policy offers a death benefit and cash value accumulation at a guaranteed fixed rate. FIUL, however, offers potential cash value growth linked to a market index, providing an opportunity for higher returns.
3. Universal life insurance: Universal life policies provide a death benefit and a cash value component that grows based on a fixed interest rate. Unlike FIUL, they do not offer a minimum guaranteed rate of return linked to a market index.

Pros and Cons of FIUL

As with anything else in life, FIULs have various pros and cons. These include:

Pros:

1. Cash value growth: FIUL allows policyholders the opportunity to leverage market growth for cash value accumulation. During a thriving market phase, policyholders can see potentially higher returns.
2. Protection from market downswings: Despite the cash value being linked to the market, FIUL offers a floor, protecting the policyholder from negative returns.
3. Flexibility: FIUL offers flexible premium payments and death benefits, which can be adjusted based on the policyholder’s changing needs.
4. Tax-deferred growth: The cash value growth in an FIUL policy is tax-deferred, meaning you won’t have to pay taxes on the interest, dividends, or capital gains until you withdraw the money.
5. Accumulation value protection: Your premiums and any interest you receive can’t be lost due to market downturns, though fees and expenses will still be deducted.

Cons:

1. Complexity: FIUL is more complex than traditional life insurance products. The policy’s performance depends on the performance of a market index and the specific terms of the insurance contract.
2. Fees and charges: FIUL policies have higher fees and charges, including premium load, cost of insurance, administrative fees, and surrender charges. These can have an impact on the policy’s overall cash accumulation/value.
3. Caps on returns: The cash value growth, while linked to market performance, is often capped at a certain percentage. This cap limits the maximum return you can earn from your FIUL policy.

Tax Implications of Owning an FIUL

The cash value growth within an FIUL policy is tax-deferred, which means you don’t pay taxes until you make a withdrawal. This deferred tax feature can be a significant advantage for policyholders who wish to reduce their current tax burden.

Moreover, if you borrow money from your FIUL policy, the loan amount is usually not taxable. However, it’s crucial to maintain the policy to avoid any potential tax consequences. If the policy lapses while there’s an outstanding loan, the amount borrowed could become taxable.

Another crucial aspect to note is that death benefits received by beneficiaries are typically income tax-free. This can be a huge relief for your loved ones during their time of grief.

Takeaways

Fixed indexed universal life insurance is a robust financial tool that offers the potential for market-linked growth, a degree of protection against market downswings, and valuable death benefits. It can be especially attractive to consumers who want to participate in the market but who can’t tolerate or don’t want to have full exposure to downturns. However, the complexity, potential costs, and the cap on returns necessitate careful evaluation. Before you decide if a FIUL policy is right for you, consider your financial objectives, risk tolerance, and long-term goals. Consulting with a knowledgeable financial professional can guide you to make an informed decision.

Remember, the most effective insurance strategy is one that aligns with your unique financial situation and future aspirations. FIUL might just be that policy for some, offering an attractive blend of risk management, cash value growth, and flexibility. But as with all financial decisions, it should be explored thoroughly, understanding all its potential implications.

 

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Standard Disclosure

This blog expresses the author’s views as of the date indicated, are subject to change without notice, and may not be updated. The information contained within is believed to be from reliable sources. However, its accurateness, completeness, and the opinions based thereon by the author are not guaranteed – no responsibility is assumed for omissions or errors.  This blog aims to expose you to ideas and financial vehicles that may help you work towards your financial goals. No promises or guarantees are made that you will accomplish such goals.

Past performance is no guarantee of future results, and any expected returns or hypothetical projections may not reflect actual future performance or outcomes. All investments involve risk and may lose money. Nothing in this document should be construed as investment, tax, financial, accounting, or legal advice. Each prospective investor must evaluate and investigate any investments considered or any investment strategies or recommendations described herein (including the risks and merits thereof), seek professional advice for their particular circumstances, and inform themselves about the tax or other consequences of any investments or services considered.

Investment advisory services are offered through Liberty Wealth Management, LLC (“LWM”), DBA Liberty Group, an SEC-registered investment adviser.  For additional information on LWM or its investment professionals, please visit www.adviserinfo.sec.gov  or contact us directly at 411 30th Street, 2nd Floor, Oakland, CA  94609, T: 510-658-1880, F: 510-658-1886,  www.libertygroupllc.com. Registration with the U.S. Securities and Exchange Commission or any state securities authority does not imply a certain level of skill or training.

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References

Bond, Casey. (May 10, 2022). Explained: Indexed Universal Life Insurance (IUL Insurance). Forbes. https://www.forbes.com/advisor/life-insurance/indexed-universal-life-insurance/

Powers, Stephanie. (March 22, 2023). What Is Indexed Universal Life Insurance (IUL)? Investopedia. https://www.investopedia.com/articles/insurance/09/indexed-universal-life-insurance.asp

Scanlon, Emily. (n.d.) What Is Fixed Indexed Universal Life Insurance (FIUL)? F&G. https://blog.fglife.com/what-is-fixed-indexed-universal-life-insurance#:~:text=An%20FIUL%20is%20a%20flexible,and%20need%20the%20money%20sooner.