Posted over 6 years ago

​Is Indexed UL or Whole Life better for infinite banking?

As I showed in a previous blog post, real estate investors can make more money by leveraging the cash value of permanent life insurance to make their investments. I am very careful to state "Permanent" versus specific types of life insurance like "Whole Life" or "Universal Life". All life insurance companies are required to make loans to their policy holders against the cash value of the policies. This is true for both Whole Life and for Universal life. 

If you saw the numbers in the business case I offered, you know that these loans are a truly wonderful thing! You can literally put your money to work in TWO places at ONE time.

The interest crediting rate on an Indexed UL is tied to underlying stock market indices like, but not limited to, the S&P 500. In years when the index loses value (like the previous 12 months), the policies credit no interest. Strategies based on the S&P 500 index have averaged around 8% for the prior 5, 10, 15, 20, 25, and 30 years. 

And with policy loan rates around 4.2%, an IUL offers a very compelling business case for real estate investors that are comfortable with the interest crediting mechanism.

One problem, however, is that if you search the internet for information on Indexed Universal Life (IUL), you will find a lot of misinformation. The following “Top 10” list, for example, comes from one of the market leaders in teaching people the concept of using the cash value of permanent insurance as your own personal bank. The problem is that they are trying to distance themselves from their competition by discrediting other insurance products. As insurance experts, they should know better. Both Whole Life and Indexed Universal Life make great platforms for what I’ll call a "Magic Checking Account” to avoid any trademark or copyright issues. Each have their advantages and disadvantages, but at the end of the day it comes down to what the client's comfort level with the mechanics underneath the hood of each policy.

The information below is intentionally misleading, if not outright wrong, and unless you talk to a well-rounded and unbiased expert you’ll never get the full story. When all you have is a hammer, everything looks like a nail. The only thing that is truly guaranteed in a Whole Life policy is that the policy will not lapse if the premiums are paid. The companies can and do change the dividend rates, which are held artificially high, annually. The reason dividends are not taxed is that it is considered a return of premium. Getting your own money back is not a return on investment. Anyone who has faith in the long term performance of the stock market will see the value of using an IUL to meet their Life Insurance, personal banking, and retirement planning needs. Those uncomfortable with the variable returns are better suited for Whole Life policies.

#10 Internal costs are not guaranteed

Internal costs are minuscule. They could triple and it would still be a rounding error. But notwithstanding that, can you think of any reason that insurance companies would go out of their way to raise costs in a highly regulated industry and make their products less competitive with other products in the market?

#9 Mortality charges are not guaranteed

Mortality charges are based on actuarial tables. They estimate deaths per thousand in groupings by age, and rating. Did you know that the cost of 1 year of ART is typically less than 0.25% of the cash value in a properly designed and overfunded IUL? This is all shown in the policy fees and expenses report on every illustration. This is less than the management fee of most mutual funds on Wall Street. The actuarial tables would have to change drastically for mortality charges to make any significant difference in cash value growth. If the actual mortality costs change for a Whole Life company, they jeopardize their own health because they have to absorb those costs. Do you think they might lower the dividend to make up for it? A shift of a few percentage points in the deaths per thousand might happen, but the impact will likely be at the thousandths place in percentage terms.

#8 Market drops cause double pain

If the market drops 40%, the cash value stays the same and the insurance company subtracts the cost of insurance (~0.25%). In this case the IUL would outperform the market by 39.75%! IUL cash values are not impacted by drops in the market at all. Perhaps the author is confusing a Variable UL with an Indexed UL. If this isn't a lie, then the author really doesn't know the business and the products.

#7 Late premiums kill any guarantees

There is no direct linkage between premiums and guarantees in an IUL. The insurance company simply subtracts its costs from the cash account. As long as there is cash in the account, the policy will remain in force. I hate to be blunt, but the Guaranteed rates in an IUL are meaningless. The circumstances that need to occur for the guarantee to be paid just will likely never happen. Its hard to find any 5 year period where an IUL doesn’t beat the best dividend rate on any whole life policy in the industry.

#6 Dividends from the index don’t get credited*

Its an index-based strategy. This is trying to create an issue where none exists. Dividends get factored into the prices of all the stocks that make up the index. A claim that the indexing strategy has returned 8.2% annually, for example, doesn’t have to be adjusted for dividends.

#5 Participation ratios are often less than 100%*

This is a lie wrong. I don’t know of a single company that doesn’t offer a strategy with 100% participation with a 12-14% cap. Each company usually offers 5-6 different options. Many companies offer options with participation rates much higher than 100%.

#4 Returns are usually capped at various interest rates*

That’s the whole point. That’s what makes an IUL so safe compared to investing directly in the market. The client gives up some of the upside potential in exchange for zero downside risk. Call Options are utilized to lock in gains and prevents losses. Its like an insurance policy against market drops. The long term IUL return is 8.2% for a 1 year point to point option. The long term return on the S&P 500 index is 9.6%. Given that the average mutual fund expenses are 2%, the IUL should outperform the S&P 500 index on a net basis with no risk of loss due to the market. That is powerful!

#3 Guarantees are not calculated annually*

As stated earlier, nobody seriously considers the guarantees because they are so unlikely to ever happen. If the market is down annually for 5-10 years, the economy is probably screwed beyond belief and we’ll all have bigger problems to worry about. A typical IUL strategy has a cap of 13% on the returns and a floor of zero. Meaning that if the market goes down, the policy cash value will not earn anything. The guarantees must obviously cover longer time spans otherwise the contract would simply offer a 2% floor instead of zero, for example.

#2 All of the above can be changed by the company

Considering that everything in a life insurance policy is known in advance, this is ridiculous. Companies have their reputations and competition at stake. If I need to save X amount in Y years to pay a death benefit, I know exactly what I need to get for a return. They are simply exploiting the word “can”. Dividend rates by whole life companies can be changed at the discretion of the company.

#1 The risk is shifted back to the insured

Not really. Everything is spelled out in the contract. I know my interest crediting is tied to the market. The costs could shift slightly, but that would be a rounding error in the big picture.

To call this list “biased” is a tremendous understatement. The author uses uses lies incorrect statements or misrepresentations in every single point. I don’t see the point in attacking the IUL in this manner. Both Whole Life and IUL are valid tools for “micro-banking”. Any true insurance professional should see the value and uses for both products and not go out of their way to attack one or the other. From a long-term, retirement planning perspective, the IUL will appeal to anyone who is comfortable with investing in the market and understands that they will outperform most mutual funds over time. The market may go up and it may go down, but over time back-tested results show about an 8.2% return.

From the "Magic Checking Account" perspective, the loan options are much more attractive on an IUL. Today’s low variable loan rates are much lower than corresponding fixed rates on Whole Life products. Interest rates may rise in the future, but when they do, the client has the option of switching to a fixed rate loan where the loan rate will match the crediting rate. This has much the same effect as a withdrawal, only you don’t have to pay taxes on a loan.

Whole Life, on the other hand, offers nice consistent dividend payouts and guarantees. This is attractive for any client that wants that degree of certainty.

For more information, check out the real estate investor resources on my website:

Note: The Infinite Banking Concept is a registered trademark of Infinite Banking Concepts, LLC.  

Comments (3)

  1. @Thomas Rutkowski Great article.  I'm not an agent, just a student of this game.  I have two whole life policies and have been introduced to a lot of IUL options (much more the go-to with insurance agents).  Here are my biggest concerns with IUL, and you've touched on them some, but I'd like your take a bit more specifically below (if you would so oblige).

    1)  There is a floor on IUL, which is great.  But say the floor happens in a given year, but you still have the cost of insurance, I'm assuming the insurance company will take that cost for that year out of the cash value, correct?  Maybe that's a few hundred bucks or thousands of dollars (especially if it happens later in life), plus a year of making practically nothing, this could be a larger hurdle to overcome than many claims that it's just a 0% year, right?  this leads to my next question...

    2)  If an illustration shows an average of 6% or 8% (I think it can only be 100 points over the loan rating now for illustrative purposes), that is assuming it's making that amount every year.  We all know an average isn't the same as actual returns (tricky "average" games the stock market folks play).  So if the policy took a beating for a year and the floor saved from loses, plus the cost of insurance was taken out of available cash, that means (if the illustration was at 6%), to hit this the following year, you'd need to make 6% the following year to keep pace PLUS an excess amount needed to recoup the loses and the lost interest (so maybe 12% at a minimum)...  Is this correct, and if so, is the argument, "well, yeah, but you would have lost 30% if your money was sitting in the market, so you're still fairing pretty darn well".  

    3)  The other issue I haven't solved is the costs going up that isn't adjusted for in an IUL illustration (which whole life at least has your guarantees up front).  And the big elephant in the room is I don't want to pay into a policy that could implode in 25 years (which of course the whole life folks preach! lol). Have you seen an IUL policy issued 15 years ago that has performed to the illustration?  Or would you say policies written this decade are much more realistic due to the low-interest environment we've experienced, so it's harder to over illustrate, even for the unscrupulous insurance agent?

    4)  Can you use policy loans from an IUL in the same frequency as a whole life product, or does IUL need the cash basis for the early years to get the money compounding?   (is it direct or non-direct recognition - or is that just company specific?)

    1. A Universal Life insurance policy is simply an unbundled whole life. Instead of having everything wrapped up in a black box where you cannot see the inner workings, a UL simply breaks the pieces apart and explicitly shows them. You cannot see the costs and the differences between the Cash Value and the Cost of Insurance in a WL. But you can bet that in the background, that is how the insurance company is building it.

      If you were an insurance company, how would you design a policy to cover someone for life? The risk is that they die early right? So you need a portion of every premium to cover that risk. That's the mortality cost. Think of it as a 1-year term that gets purchased each year. You also want that person to have paid for the entire death benefit if they live to their normal life expectancy. That's the cash value.You would invest that as safely as possible but you would want it to grow as fast as possible, right? The faster it grows, the faster your risk is eliminated.

      So the biggest difference between WL and UL is that WL makes a commitment each year on what they will pay for a dividend and a UL simply pays whatever the CV earns. The guarantee is little more than the minimum rate necessary to insure that the CV will accumulate to equal the DB. In this low interest rate environment, I'll bet they are still struggling to make that much!

      Response to #1 and #2

      Yes. The policy costs and fees occur whether the CV earns any interest or not. If you haven't looked at an illustration for a properly designed and funded policy, you probably wont appreciate just how small the costs are relative to the cash value. There are 3 basic categories of fees: Policy Issue charges, Premium charges, and the Cost of Insurance. The Premium charge is only assessed on new premium and varies by carrier. The Policy Issue charges are for the first 10 years of the policy and then drop off. Some companies go longer. The Cost of Insurance is the only charge that continues past the 10th year. And in a properly designed policy it should be less than one-quarter of one percent of the cash value. This hardly puts a dent in the cash value.

      When I state that approximately 85% of the premium goes to the cash value, its these charges that reduce the premium. [Premium - Costs = Cash Value] 2nd year fees are thus subtracted from the second year's premium. And so on. I believe you are double counting the fees in the way you are analyzing it.

      If no interest were credited at the end of Year 1, the CV would remain unchanged since the costs have already been taken out. At the beginning of Year 2 the second premium payment would result in an addition to the CV equal to about 85% of that premium. Again, its the costs that make up that 15% and those costs don't continue past Year 10 unless you continue making premium payments past year 10.

      Response to #3

      I just laugh every time I see articles about policies imploding. It really shows that the authors do not understand how insurance works. A true WL policy is comparable to a GUL (Guaranteed UL). An over-funded UL is a completely different animal.

      As I stated in the previous response, in a WL or GUL, the policy holder is essentially paying for the current cost of insurance and contributing to a savings bucket that will grow and accumulate to equal the death benefit by the time that person reaches their natural life expectancy. So as long as the CV attains at least a minimum growth rate, the policies will have just enough cash value to cover the ever increasing cost of insurance. But at the same time, the growth of the cash is lowering the net amount at risk. [Death benefit - Cash Value = Net Amount at Risk]

      Since these designs are "Minimally-funded" the rate of growth on the cash value is very important. If it doesn't meet the minimum required to pay for the ongoing mortality cost, it could run out of money. This is what the naysayers are referring to and it bears no relation to UL/IUL designs. No agent should ever be doing anything but an over-funded design with an IUL.

      An over-funded policy design is at the polar opposite end of the spectrum. Whether a WL or a UL, these policies have as much cash as legally possible to still meet the definition of insurance as defined by law. In the case of a WL policy, I use a term rider and Paid up additions to stuff cash into a policy. In a UL, these riders aren't necessary. The software solves to determine the maximum amount of cash.

      All this cash reduces the "net amount at risk". This is the gap between the cash value and the death benefit. The cash value is the portion of the death benefit that the policyholder has saved up. The Net Amount at Risk is the remaining risk on the insurance company. So while the mortality costs may be rising as the policyholder ages, the net amount at risk is declining. 

      In both WL and in UL over-funded designs, the death benefit is typically lowered in order to reduce the Net Amount at Risk. In the case of WL, this happens when the term rider drops off. In the case of a UL, the policy holder simply makes a change to the policy to maintain the minimum "corridor".

      Response to #4

      Policy loan features vary by carrier. All loans are technically loans against the policy's cash value. The carrier's choose to decide whether they will still credit interest on the cash value securing the loan or not: direct vs indirect recognition. The obvious workaround is to simply get a cash value line of credit and use that instead. If your business gets the LOC and the assignment of collateral in the policy is simply a personal guarantee, then your interest should be a business expense. I wouldn't use a policy loan from the insurance company for anything but retirement income.

      1. Hi Thomas, I have credit lines issued by insurance banks for my whole life policies (they give me a line for 95% of my cash value). However, none of them take IULs as collateral and won't lend to me on that - do you know of banks that will?