One of the major problems with the agents and the companies that sell EIUL (Equity Indexed Universal Life, which is what it was originally called) or IUL (Indexed Universal Life, which is what the industry is now calling it to avoid SEC scrutiny) is the gross negligence in conveying the risks to the clients. All one has to do is carefully read the full insurance illustration or proposal to find these out.
The insurance companies have avoided liability by spelling out the risks in very specific, albeit confusing and overwhelmingly lengthy, language in the 20+ page illustrations. The only conclusion I’ve been able to make as to why these are so lengthy is in the hopes no one actually reads them.
Even those that do read them will find them hard to understand. Consequently, clients rely on agents who either don’t understand it themselves or don’t convey the risks fully to their own clients or prospects.
That's why we're going to break down the fine print, and help you understand what an IUL is. That way you don't lead clients toward a product that you don't have full faith in.
The Misrepresentation of IUL Returns
There's something critical to note about the “earnings assumptions” in the EIUL proposal. Most of the EIUL companies use a 30 to 40-year look-back period to determine an average rate going forward. Pacific Life, the company used by the agent in this discussion, uses a 40-year look-back. That means they are including the highly positive returns in the 80s and 90s, which skew the averages upward.
We also need to remember what “average” means when we speak of market returns. I know of several mutual companies that could be illustrating much higher rates if they had a 40-year look-back as well. An average is not a true testament to reality. For example, if you earn a 100% return one year and a 0% return the next, the average is 50%. That sounds pretty darn good, except it doesn't give the whole picture of what happened.
Let's just say the account started at $1,000. A 100% return would mean $2,000. With 0% the next year, you end up with $2k after 2 years. If you actually had a 50% return each year, though, you'd come out even better. The first year, you'd have $1,500. The second year, you'd have $2,250. Compounding interest makes a huge difference. So no, a 50% average is not the same as an actual 50% return.
The Flawed Assumptions of IUL
The only “proof” that the EIUL contract works are based on flawed assumptions. The argument that the EIUL illustration performs better than a whole life illustration is not a solid argument because the EIUL is based on the fantasy average of the last 40 years in the stock market without any down years occurring. (And as we shared above, you can see why we're not really impressed with averages, anyway.)
Whole life illustrations are based on current dividends, and current dividends only. They don't use outdated information, and they don't make predictions on future dividend rates. Ask yourself why the EIUL illustrations don’t project current investment rates? And furthermore, why can an agent plug in any investment rate (below a certain threshold) they want in the illustration?
Minimum Investment Returns on an IUL
While we are discussing returns, another gross misrepresentation of the facts exists around the guaranteed minimum investment returns. Typically, the information conveyed to the client is misleading.
For example: if a 2% minimum guarantee is listed, it is represented as if this would be a minimum amount of growth the policy would earn per year. That is absolutely untrue. The 2% is the minimum GROSS earnings attributed to the policy. But mortality charges and administration costs usually exceed that 2%, resulting in a loss of cash value. Yet in the client’s mind, he gets an increase in the cash value of at least 2% every year.
Now we have a brief understanding of why and how an IUL illustration differs from a whole life insurance illustration. Yet we have not addressed the fact that the costs inside the EIUL can change drastically at the discretion of the insurance company. So even if the index ran forward at the last 40-year average rate without any fluctuation, it still doesn’t mean the internal costs would stay the same.
IUL Mortality Charges and Administrative Expenses
Unlike whole life insurance, the numbers you see on an EIUL illustration are not guaranteed. In fact, in 2012, several EIUL companies reduced their caps (the maximum interest rate they’ll contribute to the cash value growth) by more than a full percent. And they did not ask their policyholders if that was acceptable to them before the insurance companies made the change. According to my knowledge, the insurance companies' software doesn’t even have the ability to illustrate what would happen if the market fluctuated.
What is really unknown in this environment is how devastating the losses might be since they cannot be illustrated. Again, the illustration of an EIUL policy might look good, but only a whole life illustration is based on actual current earnings AND guaranteed expenses. The EIUL illustration is based on ESTIMATED (not maximum) expenses and hypothetical returns, which look better than current stock market returns.
Life Insurance Has a Cost
Costs exist inside any life insurance policy. This goes for whole life insurance, term insurance, and IULs. The challenge is in understanding these costs and which of them are guaranteed. Mortality charges are one piece of the cost equation. In EIUL, they may have a guaranteed maximum, but it is usually absent from illustraitons. Additionally, administrative expenses exist, but as with all companies will fluctuate.
The argument—from EIUL agents—that whole life insurance is more expensive starts on faulty ground. EIUL should look a lot better because of the 40-year look-back I mentioned earlier. EIUL illustrations ignore what's happening right now, including costs, in favor of what has already happened. Whole life insurance may not look as good in a given year because it's focused on the current reality. You can't accurately compare them. But you can decide whether you want to buy into a false narrative, or a realistic one.
Debunking the Top 10 Arguments for EIUL
To address the specific EIUL agent rebuttals which are typed below in italics, I provide the following:
10. “IUL Policies Have Mortality and Minimum Interest Guarantees in the Contract”
This is a prime example of basic facts conveyed in a misleading way. There are guarantees in some EIUL contracts, but they are rarely illustrated on the proposal or policy illustration.
A whole life illustration is based on the guaranteed (maximum) mortality charges whereas an EIUL illustration is based on current mortality charges which are less than the guaranteed charges that the policy might actually experience.
Additionally, a whole life illustration shows guaranteed NET cash value, which is a dollar figure, not an interest rate. A guaranteed gross interest rate means nothing when mortality charges and administrative expenses aren’t guaranteed.
This is a major difference and “similar” doesn’t mean “the same”.
9. “The Insurance Company Uses Current Experienced Rates If They Are More Favorable to the Policyholder”
The full statement reads: Mortality charges are guaranteed, however, the insurance company uses their current experienced rates if they are more favorable to the policyholder. Similar to how a whole life policy will pass back to the policyholder any improvement in pricing through the dividend which is not guaranteed.
The comment in above proves my points made in #10. The word “similar” is used, yet only exact opposites are stated in the argument in italics.
Whole life illustrations are based on maximum guaranteed mortality charges with a credit back if the mortality experience is better. EIUL illustrates ideal mortality charges and then takes cash value away if the experience is worse. The insurance company will use current mortality charges IF those charges can support the policy AS WELL AS the company’s profitability target.
Many times agents dismiss the maximum mortality charges as “not likely” since people are living longer. And yet, those maximum charges do occur, most often late in someone’s life when there is nothing they can do about it except drop the insurance.
This is the exact opposite of what should happen: insurance kept until death.
8. “Market Drops Don't Cause Double Pain”
The full statement reads: Market drops don't cause double pain. If the client is fully invested in
the index, the worst that can happen to his account in a negative year is to stay flat, it doesn't participate in the loss.
This comment proves my concern stated at the beginning of this article. Agents convey an idea to clients with a statement such as “you don’t participate in the loss,” which is completely misleading.
The earnings rate may not be negative because of a stated guaranteed floor of 0-2%, yet costs and expenses will cause the cash value to be reduced, so there is a loss.
Here, words put forth by the agent imply that the cash value cannot go down, and yet it can even though the policy didn’t “participate in the loss.”
7. “Late Premiums Don't Kill Guarantees”
The full statement reads: Late premiums don't kill guarantees. Some UL policies are designed for minimally funded death benefit policies. In those types of policies, your premium can affect your guarantees. However, in a Maximum Funded IUL policy there is no impact to the underlying guarantees based on the timing of your premium.
Most guaranteed UL policies have penalties for late premiums regardless of whether they receive minimum or maximum payments. Please check with your carrier to see how they handle late premium payments.
6. “It's Just a Put-and-Call Strategy”
The full statement reads: Dividends from the underlying stocks don't get credited, because the insurance company is not investing in stocks. They are taking the annual interest the policy would have earned in the general account and they are using that interest income to purchase a “put and call” option on a particular index. (ex. S&P 500). They are purchasing the put on the growth of the index over a specific time period. This is not a negative.
Puts and calls are all expenses that lower cash value. Insurance companies have to use the additional put-and-call strategy to protect themselves from large stock market swings. Ask yourself why insurance companies don’t use this strategy with their entire portfolio.
5. “Participation Ratios on IUL are at 100%”
Each insurance company sets its own caps and its own participation ratio and can change them at will without checking with the policyholders. Just because it was in the illustration when you bought the policy doesn't mean it'll stay that way forever. And in many cases, it doesn't.
4. “IUL Caps Range From 12% to 14%”
The full statement reads: Returns are capped on IUL contracts based on what the insurance company can purchase at any given time in the market. The high-quality mutual companies that offer the product have caps ranging from 12% to 14%.
Each insurance company sets its own caps and can change them at will. As mentioned earlier, many companies lowered their caps in 2012, and you can bet they've lowered them since.
Ask your carrier what their minimum guaranteed cap is? Again, this is the minimum they would contribute to your policy cash value growth. We’ve seen them as low as 4%. Again, they may illustrate higher caps in a lower market, since there is less risk of having to actually pay it.
3. “There Is No Negative Compounding Taking Place”
The full statement reads: Guarantees are calculated annually if the client invests in a 1-year index. If they invest in a 2-year index, then they true up at the end of the second year when the index comes due. In Todd's example, he illustrates that in year 2 and 4 the account earns a negative return. In actual practice, the account would have earned a 0% return in those years because it does not participate in the negative numbers. There is NO negative compounding taking place!
Remember, a gross return of 0% doesn't mean the account is safe. If there are still mortality charges and administrations costs to cover, those can send the cash value negative, regardless of the “buffer” against losses. That 0% floor only exempts you from market losses, not the costs of insurance.
2. “An IUL With A Well-Run Mutual Company is OK”
The full statement reads: Just like with a whole life policy, all the numbers after the first payment are changed by the insurance company's actual experience. This is not a negative if you are with a well-run Mutual Insurance Company.
With whole life insurance, because the guaranteed mortality charges are illustrated at maximum, changes in mortality expenses made annually can only reflect an increase in cash value. Whereas in EIUL, changes in mortality expenses made annually could cause a decrease in cash value.
Again, there are many aspects the insurance company can change inside EIUL, cap rate, mortality charges, expenses, etc. And to obfuscate this, the insurance companies run illustrations of an “ideal” scenario. If it falls short, that's the policyholder's problem. It is not designed in the policyholder's favor.
1. “The Risk is Not All on the Insured”
The full statement reads: The risk is not shifted to the insured, the insured is given a few more options as to how he would like the company to credit growth to his account. Any year the insured feels there is too much uncertainty in the market, he can tell the insurance company to put his account in their general account and he will know that he will earn their stated rate that year. It doesn't have to be all or nothing. He can actually do a blend that makes sense for him.
Ask yourself why your death benefit isn’t guaranteed to be paid from an EIUL policy? Doesn’t that put the risk on the client’s side rather than the insurance company’s side? In whole life, there is a guaranteed death benefit, as long as premiums are paid. In EIUL, you could pay premiums and still lose your death benefit.
With whole life, there is a guaranteed cash value account, which is the responsibility of the insurance company. With EIUL, there may be a guaranteed minimum GROSS earnings rate, but it means nothing if the mortality expenses and administrative costs are more than the earnings.
IUL and Whole Life Insurance Are Not Similar
One of the ridiculous statements EIUL proponents make is how similar EIUL is to whole life, when in fact, they are complete opposites. If someone wants to buy EIUL, then help them buy it with full disclosure so they completely understand it. To imply that EIUL is similar to whole life insurance is false. If you want something like whole life, then buy whole life with all of its guarantees.
Do remember, the insurance companies state each of these pieces of information in the full disclosures contained inside the illustrations. All one has to do is carefully read them (even though it is a major chore) to see that what I have spelled out is the whole truth.
Again, I state: either insurance agents don’t fully understand it themselves, or agents don’t fully convey the risks to their clients, leaving them confused.
Comparing illustration to illustration is not comparing apples to apples. It is easy to make the EIUL illustration look good. The question is, will it look good for your whole life? Since there is no way to accurately illustrate the potential changes, we really don’t know.
However, don’t take my word for it. Please read the illustration to get the whole truth and while reading, remember what the illustrations’ numbers are based on: a guess about the future, based upon the AVERAGE (not actual) historical returns over the last 30-40 years.
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