What Is Universal Life Insurance?
Universal life insurance is a type of permanent life insurance that provides lifelong coverage. It also features flexible premium payments and multiple investment vehicle choices. While it has similarities to whole life insurance, a universal life policy grants you extra flexibility in terms of investments, which may help you build cash value faster.
Since it provides lifelong protection, universal life insurance is usually more expensive than term life insurance, which protects you for a specific period.
What Is Permanent Life Insurance?
Permanent life insurance is insurance that protects you for your entire life. That means your beneficiaries are guaranteed to receive your death benefit when you pass away, as long as you keep paying your premiums.
There are two major types of permanent life insurance: whole life and universal. The key difference between them is how your premiums are reinvested. With whole life policies, you generally don’t have control over where the insurer invests your premiums. The reverse happens in universal policies, where you can choose where your money goes.
How Does Universal Life Insurance Work?
Universal life insurance works by paying a death benefit to your beneficiaries when you pass away. Since it’s permanent insurance protection, death benefits are guaranteed as long as you don’t fall behind on payments.
However, universal life insurance has some flexibility over how your death benefit works. Here are the three most common ways your death benefit will be paid out:
If you pick this option, you determine the payout when you buy the policy and it remains the same throughout the years. Upon your passing, your beneficiaries will either receive the predetermined death benefit value or your investment account’s value, whichever one is higher.
With this option, your beneficiaries will receive your predetermined death benefit plus the account value at the time of your passing.
Picking this option means your beneficiaries will only receive your investment account’s value when you pass away.
Part of your universal life insurance premium payments go to an investment account, which can accrue value over time. The account value features tax-deferred growth and can grow faster or slower depending on what kind of investment you choose. Some common investment account types for your universal policy are:
Daily Interest Account (DIA)
A DIA is similar to a regular savings account, where interest is calculated every day. The insurer sets the interest rate, which may be subject to change.
Guaranteed Interest Account (GIA)
A GIA offers guaranteed interest rates for a certain period. These accounts usually have time frames of 1, 5, or 10 years.
Variable Interest Option (VIO)
A VIO offers higher potential returns with higher risk since it’s linked to the market. The interest rate may fluctuate depending on the performance of various indices, mutual funds, and other portfolios.
Read our guide on whether life insurance can be used as an investment to see if investing through insurance is right for you.
As a universal life policyholder, you can pick more than one investment account type. If you pick multiple investment account types, you also need to specify how much of your premiums go into each account.
Similar to whole life insurance, you can also use the money stored in your account while you’re still alive.
You can access your account value by:
- Taking out policy loans.
- Withdrawing cash from your policy.
- Collateralizing your insurance policy.
- Surrendering the policy and taking its surrender value.
Pros and Cons of Universal Life Insurance
Every type of life insurance has its set of benefits and drawbacks. Is universal life insurance right for you? Let’s take a look at its pros and cons to find the answer:
Pros of Universal Life Insurance
Flexible premium payments
Universal life insurance policies don’t have fixed premium amounts. As long as you pay enough to cover the cost of insurance and extra costs, you can save money by reducing your premium payments. Conversely, you can make bigger payments to put more money in your investment account.
Universal life insurance offers multiple investment vehicles to choose from. This means you can choose the investing method that fits your risk appetite instead of sticking with whatever method the insurer offers.
Tax-deferred investment returns
Any value you build in your insurance investment account grows tax-deferred, which means it can potentially grow faster than if it were taxed. This is especially useful if you’ve maxed out your other retirement accounts and want another tax-deferred investment vehicle.
Lifelong insurance coverage
Universal life policies offer permanent protection, which means you’re covered until you pass away. Your beneficiaries are guaranteed to receive your death benefits, as long as you don’t fall behind on premium payments.
Cheaper than whole life insurance
Universal life insurance has flexible premiums, which means you can potentially pay less money than whole life insurance policyholders.
Cons of Universal Life Insurance
More expensive than term life insurance
While universal life insurance has flexible premiums, it’s likely still more expensive than term life insurance.
Universal life insurance is more complicated than term life insurance since there are lots of moving parts, like the policy’s account value and the different ways you can use it. If you want to get the most out of your universal life policy, you need to spend time learning its ins and outs.
Risk of loss
Universal life insurance policyholders can choose between different investment vehicles, but that means they can lose money on their investments. If interest rates fall, your losses might eat into your account value and death benefit.
Needs constant monitoring
Unlike a whole life policy, you can’t “autopilot” a universal life policy. You need to keep an eye on it to ensure your investments don’t lose money and reduce your account’s value.
What Are the Types of Universal Life Insurance?
There are three types of universal life insurance, each with its own unique features. Here’s a look at the most common types of universal life insurance in Canada:
Guaranteed Universal Life Insurance
Guaranteed universal life insurance offers a fixed premium and guaranteed death benefits. Different from its counterparts, a guaranteed universal policy doesn’t have an investment component, since its cash value grows at a fixed rate.
Because you’re guaranteed a death benefit, guaranteed universal policies are best for those who don’t want to take risks with their insurance coverage.
Indexed Universal Life Insurance
Indexed universal life insurance offers flexible premiums with a death benefit amount that isn’t fixed. Your death benefit may rise or fall depending on the performance of the stock market index it’s tied to. An indexed universal policy has a minimum guaranteed return rate, but the cash value can grow faster if the index performs well. However, the cash value may not grow if the index performs poorly.
Indexed universal policies are best if you’re willing to take on some risk to potentially get higher investment returns on your premiums.
Variable Universal Life Insurance
Variable universal life insurance also has flexible premiums and death benefits that change according to your investment option’s performance. Similar to indexed universal policies, a variable universal policy’s cash value can grow faster if your chosen investment option performs well. On the flip side, you may need to pay higher premiums to keep the policy if your investment option doesn’t do well.
Variable universal life insurance is essentially high-risk, high-reward. We recommend it only if you can shoulder the added risk in hopes of getting high returns.
Universal Life vs Whole Life Insurance
The main thing universal life and whole life insurance have in common is that they both offer lifelong coverage. Whenever you pass away, your beneficiaries will receive the policy’s death benefits as long as your premiums are paid up.
However, there are key differences between the two types of permanent life insurance. Here’s a comparison table to help you identify what sets them apart:
|Universal life insurance||Whole life insurance|
|May have flexible premiums||Fixed premiums from the start of your policy|
|Lets you choose when you pay premiums||Fixed premium payment schedule determined at the start|
|Allows you to make extra deposits outside premium payments||May require approval to make extra deposits outside premium payments|
|You can choose where to invest your premiums||The insurer chooses where to invest your premiums|
|You can raise or lower your death benefits and premium payments||Your death benefit and premium payments are fixed|
|Doesn’t have guaranteed cash value growth through investment returns, since they’re based on investment performance||Insurer guarantees cash value growth through investment returns|
Need a more comprehensive guide to the differences between these two insurance types? Here’s our article on the differences between whole life and universal life insurance.
Universal Life vs Term Life Insurance
Term life insurance is the simplest form of insurance, contrasting the complexity of universal life insurance. With a term policy, you pay premiums to receive insurance coverage for a certain period. If you pass away within the insurance period, your beneficiaries will receive the death benefit. If you outlive your policy, you won’t receive anything.
Let’s go over the differences between universal life insurance and term life insurance to help you choose which one is the best for you:
|Universal life insurance||Term life insurance|
|Provides lifelong insurance coverage||Provides insurance coverage for a certain period|
|Offers a cash value component||Has no cash value component|
|Complex and potentially more expensive||Simple and cost-effective|
Still can’t decide between universal life and term life insurance? Here’s a comprehensive comparison to help you weigh the options.
The Average Cost of Universal Life Insurance
You can’t accurately estimate how much you’ll pay for universal life insurance since there are so many variables to it. Your premiums are flexible and your death benefit can be raised or lowered, so it’s hard to make a long-term budget for universal insurance policies.
However, we can provide rate estimates based on very specific scenarios. In this case, here’s a look at possible monthly universal life insurance rates for non-smoking males and females aged between 30 and 50:
|Coverage amount||Non-smoking male||Non-smoking female|
|Age 30||Age 40||Age 50||Age 30||Age 40||Age 50|
When to Choose Universal Life Insurance
Universal life insurance is right for you if you want long-term insurance protection and higher returns on your investments. However, you should also remember that universal life insurance has a higher risk than whole life insurance since your investments can fail and reduce your account’s value.
If you want lifelong insurance protection but don’t want to bear the risk of loss, we suggest taking whole life insurance instead. If you want affordable insurance protection that only lasts a certain time, we suggest choosing term life insurance.
Universal life insurance provides flexible investments, tax-deferred cash value growth, and adaptable premium payments. However, you still need to put quite a lot of money to accumulate enough cash value for it to mean something. That means you need to be a relatively high earner to get the most value from universal life policies.
Universal life insurance isn’t a “set it and forget it” deal, either. Unlike whole life insurance where you’re only passively investing, you need to keep a close eye on universal life insurance investments to ensure you’re not losing money on them. This means you need to dedicate time and effort to study the market and monitor your investment’s performance.
At the end of the day, universal life insurance may or may not be right for you, depending on your protection and investment needs. Talk to an insurance broker if you need help choosing the best insurance product to purchase.
What are the investment options available within a universal life policy?
Examples of investment options available within a universal life policy in Canada are:
• Mutual funds
• Stock market indexes
• Treasury bills
• Fixed-rate interest accounts
• Equity-linked investment accounts
You can allocate all your premium payments to one investment option or spread them around multiple options to diversify.
How does a universal life insurance death benefit work?
A universal life insurance death benefit works by providing your beneficiaries with financial compensation when you pass away. However, your universal life policy’s death benefit isn’t fixed. You can raise or lower it to modify the payout, and some policies let you add the cash value of your account to the death benefit payment.
How do you access the cash value of a universal life insurance policy?
You can access your universal life policy’s cash value with one of these four methods:
• Taking policy loans
• Withdrawing the policy’s cash value
• Surrendering your policy
• Using your policy as collateral
What affects the cash value of a universal life policy?
Your universal life policy’s cash value is affected by your chosen investment option’s account growth. Depending on what kind of investment you choose, the factors that affect it will vary. For instance, a policy tied to a stock market index will grow based on the index’s market performance.
Which is better – whole life or universal life?
There’s no definite “better” insurance type between whole life and universal life policies. Define what you need out of your insurance policy and choose the one that can best meet those needs.
Is universal life insurance worth it?
Universal life insurance is worth it if you’re looking for lifelong insurance protection and don’t mind being hands-on with your investments. Universal life insurance needs more management than whole life insurance since you need to monitor your investments and readjust your portfolio to maximize returns.
Can I cash in my universal life insurance policy?
You can cash in your universal life insurance policy by surrendering it. When you surrender the policy, you’ll get its surrender value, minus applicable surrender fees.
If you don’t want to surrender your policy entirely, you can take policy loans, withdrawals, or use the policy as loan collateral.
Can I adjust the premiums or death benefit of my universal life insurance policy?
You can adjust your universal life insurance policy’s premiums and death benefits. This means you can alter your policy’s details to meet your changing protection requirements and financial state as you grow older.
Can I borrow against the cash value of my universal life insurance policy?
You can borrow against the cash value of your universal life by taking out a policy loan. These loans have low interest, but you need to repay them before you pass away. If you pass away before repaying a policy loan, your death benefit may be reduced.
What happens to the policy if I stop paying premiums?
Not paying your universal life insurance premiums may result in policy termination. If you have enough cash value built up, the money stored in there may pay your premiums for a while, even if you’ve stopped making payments. However, when there’s no money left in your cash value, your policy will terminate and your beneficiaries won’t get a death benefit when you pass away.
Can I cancel my universal life insurance policy?
You can cancel your universal life policy by contacting your insurer. In some policies, cancelling your universal life insurance policy means you can receive your cash value, also known as your surrender value, minus applicable fees.
Surrendering your universal life insurance policy may result in your earnings being taxed. Check out our guide to the tax implications of life insurance in Canada for more information.