Last Updated on June 15, 2023 by Tree of Wealth

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Universal life insurance policies are a popular choice for those who want to ensure financial security for their loved ones in the event of their death. These policies offer lifelong coverage, with the added benefit of a savings component that accumulates cash value over time. However, before purchasing a universal life insurance policy, it’s important to understand how they work and what to consider.

One key consideration is whether to prioritize basic protection needs or leaving an inheritance for your loved ones. While universal life insurance policies are often marketed as a tool for providing a substantial inheritance, it’s important to ensure that your basic protection needs are met first.

Learn about the functioning of universal life insurance policies and the key factors to consider before deciding to purchase one.

Main Points

• Prioritize basic protection needs over leaving an inheritance when considering universal life insurance policies.
• Consider if you can afford a high upfront premium payment, such as $200,000 for a $500,000 sum assured.
• Be cautious about accepting a loan to pay the premium, as non-repayment may result in the loss of coverage.
• Additional premiums may be required to keep the policy in force.
• Other universal life insurance policies may focus on wealth accumulation and offer lower protection benefits with a lower premium cos

How Universal Life Insurance Policies Work

Universal life insurance policies are a popular choice for those who want to ensure financial security for their loved ones in the event of their death. These policies offer lifelong coverage, with the added benefit of a savings component that accumulates cash value over time. However, before purchasing a universal life insurance policy, it’s important to understand how they work and what to consider.

Universal life insurance policies are bundled products that provide both insurance protection and an investment return. The investment returns are based on the crediting rate declared periodically by the insurer, which can be changed at the insurer’s discretion. However, the minimum crediting rate, which can be set at 0%, cannot be decreased beyond that.

Differences from Whole Life Insurance Policies

Unlike most life insurance policies, universal life insurance policies allow you to adjust the sum assured and cash value of your policy after inception.

Understanding Sum Assured and Cash Value

The sum assured is the amount your insurer pays your beneficiaries upon your death. Your insurer may cover you for a higher sum assured based on additional risk assessment. The cash value, also known as the surrender value, is what you will receive if you cancel your policy. You may pay additional premiums at any time to increase the cash value of the policy.

Key Features of Universal Life Insurance Policies

Universal life insurance policies are often marketed as a way to leave a substantial inheritance to loved ones, with the tradeoff being a large upfront premium payment.

It’s important to prioritize basic protection needs before considering leaving an inheritance.

Universal life policies are different from typical whole life policies in that you can adjust the sum assured and cash value of your policy after its inception.

Investment returns on universal life policies are based on the insurer’s crediting rate, which can be changed at their discretion but cannot be decreased below a certain minimum.

FYI

* Sum assured is the amount your insurer pays out to beneficiaries upon your death.

• Cash value, also known as surrender value, is what you receive if you cancel your policy.
• Premium financing, or taking out a loan to pay for premiums, should be approached with caution. Can you consistently repay the loan, including when interest rates rise? If you can’t repay the loan, you may lose your insurance coverage.
• Another type of UL, the Savings-oriented universal life policies, offer lower protection benefits with lower premiums.

What to know before buying a universal life insurance policy

Fees

The policyholder should be aware that insurance and administration charges are usually deducted from the policy’s cash value on a monthly or annual basis, and they should check their policy contract for the frequency and amount of deduction. The insurer is required to notify the policyholder if they revise the charges, and the policyholder should inquire about the notice period. The policy illustration provided to the policyholder at the time of purchase can provide details on how the various charges affect the policy’s cash value.

When buying a universal life insurance policy, there are several fees that you need to be aware of: • Premium charge – A percentage of your premium payment may be deducted by your insurer to cover expenses such as distribution and administration costs.

• Insurance charge: A recurring fee for insurance coverage that may increase with your age is sometimes charged by insurers.
• Administration charge: Your insurer may charge you administrative costs.
• Partial withdrawal charge – Withdrawing a portion of the cash value in your policy may result in a fee charged by your insurer. Additionally, the sum assured of your policy may also decrease. • Surrender charge – If you decide to terminate your policy by withdrawing the entire cash value, your insurer may charge a fee for doing so, and your insurance coverage will end.

Possible Policy Lapse

One consideration is the upfront premium payment. Some policies may require a very high one-time premium payment, such as $200,000 in exchange for a large sum assured of $500,000. It’s important to assess whether you can afford this payment and what impact it will have on your finances.

If you’re unable to make the upfront premium payment, you may be offered a loan to cover it. However, it’s important to think carefully before accepting this option, as failing to repay the loan can result in the loss of your life insurance coverage.

To prevent your policy from lapsing, you may need to pay additional premiums after making the upfront payment. It’s important to consider whether you’ll be able to continue making these payments and what impact they will have on your finances.

In the event that the cash value of a policy decreases significantly, such as when investment returns are lower than anticipated and fees accumulate, there is a chance that the policy could lapse. If the cash value reaches zero, additional premiums must be paid to prevent the policy from lapsing. It is recommended that policyholders regularly review the cash value of their policy and refer to their policy illustration for possible lapse scenarios. Insurers usually provide periodic statements to update policyholders on their policy’s cash value and notify them when the policy is at risk of lapsing.

In certain cases, the insurer may terminate some universal life policies after providing notice. If this occurs, the accumulated cash value in your policy will be returned to you.

Two Main Types of Universal Life  (UL)

One key consideration is whether to prioritize basic protection needs or leaving an inheritance for your loved ones. While universal life insurance policies are often marketed as a tool for providing a substantial inheritance, it’s important to ensure that your basic protection needs are met first.

There are two primary types of UL insurance policies and they are protection-oriented and savings-oriented. The protection-oriented policy typically offers a higher sum assured but comes with higher premiums, while the savings-oriented policy usually has a lower sum assured and lower premiums. The policy term for a protection-oriented policy is usually the whole of life, meaning that the insurer will renew the policy as long as the premiums are paid. On the other hand, the policy term for a savings-oriented policy can be either the whole of life or a limited period, where the insurer can choose not to renew the policy after giving notice.

	For Protection Coverage Purposes	For Wealth Growth Purposes
Protection Value	Assured sum at a higher level	Assured sum at a lower level.
Premium Amounts	Higher	Lower
Policy term	The policy term lasts for the entire life of the insured individual, and the insurer will renew the policy as long as the premiums are paid.	The policy term for savings-oriented universal life insurance can be either whole of life or for a limited period, where the insurer can choose not to renew the policy after giving notice.

Finding the Key Information

Key information can be found in various documents related to your universal life insurance policy. These may include the policy contract, policy summary, policy illustration, and periodic statements. It is important to carefully review these documents to understand the fees, charges, policy term, sum assured, and other important details related to your policy.

Information to be checked	Where to find it
Fees and charges (including frequency of payment and notice period for insurer to revise the fees and charges)	Policy Contract
Policy term and renewability	Policy Cover Page
Possible lapse scenario and how various fees and charges are likely to affect the projected cash value of your policy	Policy Illustration
Policy’s cash value	Statement from the issuer
(Where applicable) Terms and conditions of premium financing	Premium financing agreement

Source: MoneySense

How does a universal life insurance policy differ from other types of life insurance policies?

The presented table compares the investment features of universal life insurance policies with other cash value life insurance policies, including participating whole life and endowment policies, as well as investment-linked policies (“ILPs”).

	Universal life insurance policies	Participating Policies	ILPs
Investment Mandate	The insurer decides the investment objective and investment strategy  for the fund, taking into account the insurer’s overall liabilities. The investment objective and investment strategy are usually not disclosed to the policyholders.	The insurer decides the investment objective and investment strategy for the fund, taking into account the insurer’s overall liabilities. You can find the investment strategy including the broad investment mix in the product summary.	Each sub-fund will have its own investment objective that is disclosed upfront. Policyholders can track the sub-funds’ performance via the daily publication of unit prices on the insurer’s website. Policyholders are also notified if significant changes are made to the sub-fund(s)’ investment strategy.
Share of returns	Premiums go into the insurer’s non-participating fund. This means policyholders are not entitled to a share of the insurer’s profits. Instead, policyholders earn an investment return at a crediting rate declared by the insurer.	Premiums go into the insurer’s participating fund. This means policyholders are entitled to a share of the insurer’s profits in the participating fund.	Premiums are invested in one or more sub-funds of policyholders’ choice, where the returns are based on the sub-fund’s performance.
Forms of Returns	Crediting rate (can be changed, but subject to a guaranteed minimum crediting rate which may be 0%)	Guaranteed bonuses (fixed) Non-guaranteed bonuses (variable)	ILP sub-fund unit value (variable)
Investment Risk	The insurer and policyholders share the investment risks. The insurer bears the investment risks associated with the delivery of the guaranteed minimum crediting rate. Policyholders are subject to the remaining investment risks – non-guaranteed crediting rates could be reduced if investment returns turn out poorer than expected.	The insurer and policyholders share the investment risks. The insurer bears the investment risks associated with the delivery of the guaranteed product features, e.g. minimum surrender values, insurance coverage. Policyholders are subject to the remaining investment risks – non-guaranteed bonuses could be reduced if investment returns turn out poorer than expected.	Policyholders bear the investment risk entirely.

Source: MoneySense

There are different types of universal life insurance policies available. Some policies focus on wealth accumulation, offering lower protection benefits with a lower premium outlay. It’s important to assess your needs and preferences before selecting a policy.

Understanding how universal life insurance policies work and what to consider before purchasing one is important for making an informed decision. By taking the time to assess your needs and preferences, you can select a policy that provides the right level of protection and financial security for you and your loved ones.

If you are considering a universal life insurance policy, don’t hesitate to reach out to us to learn more. Contact us today to discuss your insurance needs and explore the options available to you. We are here to assist you and help you make an informed decision about protecting your future.

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