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Variable UL versus Equity Indexed UL?? May 1, 2014

Posted by shaferfinancial in Finance.
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Recently, someone I am working with directed me to another article on EIULs written by a mutual fund salesperson [Financial Planner] that typically was an attempt to create fear of insurance products via suggesting that insurance companies were evil enterprises that would do their best to screw over their policy holders [and of course the products he sold are from companies that are only looking out for their customers].

What intrigued me though, was this veiled reference to variable universal life insurance products as an example of the evil insurance companies malfeasance. Whenever these critics write about EIULs they always have to put in some statement about variable UL. So, I thought it would be useful to discuss the differences and allow my readers to think through what they are criticizing.

Variable UL is simply life insurance that allows the owner to put excess premium into sub-accounts. These sub-accounts are almost universally mutual funds of some sort. The expenses in variable UL are relatively high because you are paying expenses on the life insurance side and the expenses of the mutual funds. Double expenses compared to most financial products. But most of the critiques don’t point to this, but to what happened in the early 2000s to new owners of these policies. Since your excess premium is being put into mutual funds that have the entirety of market risk, your cash value can go negative in a big way. If this happens in the early years of your policy and it hasn’t been structured to minimize the death benefit [and it rarely was back then], you might be in a situation where you do not have enough cash value to pay the expenses inside the policy and be required to make a larger premium payment. This is what happened to some variable UL owners. And of course there was several lawsuits about this situation [there were also several lawsuits about mutual funds when the value dropped too]. The insurance companies reacted to this situation by creating equity indexed universal life insurance products that don’t have the market risk [because you aren’t in the market like you are for VUL]. This prevents this situation from happening to even policy owners of poorly structured EIULs.

Does anyone see the irony of mutual fund salespeople using VUL as an example of a bad product? Yes, the same market downdrafts that damage VULs, also damage mutual funds and create much of the same effect when people sell their funds. Sequence of return risk, as I repeatedly point out, is the biggest risk in saving for retirement. Yet, few mutual fund sales person broached that subject with their clients or in any general discussions on the internet.

Here is the point: Variable universal life is not a great product for retirement savings because it has full market risk otherwise known as sequence of return risk. It also has high expenses, which will dampen overall returns. Mutual funds have the same sequence of return risk, while some have lower expenses, many still have high expenses especially those sold to companies for their employees 401ks. Comparing either of those products to an equity indexed universal product is like comparing apples to oranges because there is little sequence of return risk in an EIUL, even less in a properly structured EIUL. The odds of having more usable income from an EIUL rather than either a VUL or mutual funds is extremely high, somewhere in the 90 percentile range using historic numbers.

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