Universal Life: Benefits, Uses and Key Considerations

Universal life (UL) insurance offers a unique blend of both lifelong mortality protection and financial flexibility. This article will explore what UL insurance is, delving into its inner workings and its potential applications. This article will also discuss critical considerations to keep in mind when evaluating whether this type of insurance meets your financial goals.

Whether you are seeking to secure your family’s financial future, build tax-advantaged savings or create a legacy, understanding UL insurance is a crucial step in making informed decisions about your financial well-being.

What Is A Universal Life Insurance Policy?

A UL insurance policy is a type of permanent life insurance that not only offers lifelong life insurance protection, but also the flexibility to adjust premiums and death benefits within certain limits. Unlike traditional term life insurance, UL insurance allows policyholders to pay flexible premiums beyond the minimum required to maintain the policy.

Premiums in excess of the minimum premium, along with interest earned, accumulate in a cash value account that grows on a tax-deferred basis. This cash value can be accessed through loans or withdrawals, which offers liquidity for policyholders. Note, however, that withdrawals and loans can impact the policy’s cash value and death benefit (if the cash value is tied to the death benefit). These activities, in some situations, also trigger current taxation, so it is critical to understand these implications before executing these options.

UL insurance therefore strikes a balance between providing essential financial protection and offering flexibility to adapt to the policyholder’s changing circumstances. The following sections will explore ways UL insurance can be used and will discuss important considerations to keep in mind before making decisions that impact a policy.

How Can Universal Life Be Used?

Common applications of UL insurance are as follows:

Lifetime Mortality Protection

The primary function of any life insurance policy is to provide a death benefit to beneficiaries upon the insured's passing. With UL insurance, this protection lasts a lifetime, ensuring that loved ones are financially supported regardless of when the death occurs.

Estate Planning

UL insurance can play a crucial role in estate planning. The death benefit can be used to pay estate taxes, ensuring that assets can be passed on to heirs without the burden of having to sell potentially illiquid assets such as private businesses or real estate. This can be especially important in situations where it is important that family cottages or other like assets remain in the family for future generations.

Tax-Advantaged Savings

The cash value component of UL insurance grows tax-deferred, meaning you will not owe taxes on the growth unless you withdraw more money than the net of 1) total premiums paid less 2) the net cost of pure insurance. This can be an attractive feature for those seeking to accumulate savings in a tax-efficient manner.

Supplemental Retirement Income

UL insurance can be used to supplement retirement income through policy loans or by using the cash value as collateral for non-taxable loans from a financial institution.

Business Planning

UL insurance can also be utilized in business settings to fund buy-sell agreements, providing liquidity to purchase a deceased owner's share of the business. Key person insurance, which protects against the financial loss resulting from the death of a key person, can also be structured using UL.

Charitable Giving

For those inclined towards philanthropy, UL insurance can facilitate charitable giving. The policy can be structured to name a charity as the beneficiary, providing a significant tax-deductible donation upon the insured's death.

Factors To Consider Before Buying Universal Life Insurance

UL insurance, while offering appealing benefits, also comes with some complexities and potential drawbacks. Before committing to a policy, it is crucial to carefully weigh the following factors:

Investment Options and Fees

UL insurance policyholders have a wide range of investment options to choose from in which the premium (net of insurance costs) is invested. Some of these investment options have an element of market risk. Additionally, each option will have varying fees that are dependent on complexity, administrative costs, active or passive management and more. These investment options include, but are not limited to:

Actively Managed Funds

Actively managed funds generally have the highest management expenses, and their offerings are dependent on the insurer. For example, an insurer may offer an actively managed North American dividend growth fund.

Interest Rate Accounts

These can include guaranteed interest rate accounts for a specified term, or floating returns based on a reference rate.

Market Index Accounts

These may be Canadian stock indices (e.g. TSX), US stock indices (e.g. S&P 500), European stock indices (e.g. STOXX 50) and more.

Strategy Accounts

Insurers may have their own strategy accounts to align with the policyholder’s risk tolerance (e.g. ranging from prudent, low-risk funds to aggressive, high-risk funds).

Cost and Flexibility

The flexible premium structure of UL insurance can be attractive, but it is essential to understand the potential impact of fluctuating investment returns and costs on your policy.

Cash Value Fluctuations

While cash values do grow on a tax-deferred basis, there is a risk of losing value if investment performance is poor or expenses (such as management expense ratios) are high.

Complexity

UL insurance can be quite complex, with various moving parts and potential pitfalls. It is crucial to thoroughly understand the policy's terms, fees and potential risks before making a decision.

Alternatives

Consider comparing UL insurance with other types of life insurance, such as term life or whole life, to determine which best suits your needs and goals. Term life, for instance, offers pure protection at a lower cost, while whole life provides guaranteed cash value growth.

Financial Goals

Assess your specific financial goals and priorities. If your primary objective is pure protection, term life might be a more suitable option. If you seek to build cash value and have a longer-term horizon, UL might be worth considering.

Professional Guidance

Seek advice from a qualified advisor who can help you navigate the complexities of UL insurance, assess its suitability for your circumstances and compare it with other options in the market.

Remember, choosing the right life insurance policy is a crucial decision with long-term implications. Careful consideration and professional guidance are key to making an informed choice that aligns with your financial goals and secures your family's future.

Conclusion

UL insurance represents a versatile financial tool that can be tailored to meet a variety of needs, from providing lifelong protection to building tax-advantaged savings. However, its complexity and inherent risks necessitate careful consideration and professional guidance.

Before making a decision, it is crucial to weigh the potential benefits against the costs, understand the impact of market fluctuations on cash value and explore alternative life insurance options.

By taking the time to research, compare and seek expert advice, you can make an informed choice that aligns with your unique financial goals and secures your family's future.