What Is Universal Life Insurance and How Does It Work?
Life insurance protects you against both the inevitable and the unforeseen. Whether it is a sudden tragedy or the simple reality of death and taxes, coverage helps your family to pay for post-mortem bills, personal support and lost income. This is generally smart no matter your personal circumstances, as dying can be surprisingly expensive. If you are married, life insurance is an even better idea. If you are a parent with young children it is an absolute necessity.
There are, however, several types of life insurance. One of the more comprehensive ways to provide for your family after death is a universal policy. Here’s how it works.
There are two main forms of life insurance to choose from:
• Term Life Insurance – These policies cover you for a specific, contracted period of time. For example, if you take out a 10-year term life insurance policy, it will pay benefits if you die any time during that 10-year period so long as you have kept current with your premiums.
• Permanent Life Insurance – These policies cover you for your entire life as long as you pay your premiums. They pay benefits when you die, but because it is certain that you will die at some point during the coverage period, these policies are almost always more expensive than term life insurance.
Unlike most life insurance policies, universal life insurance also has a cash savings component. A portion of each premium that you pay is set aside and invested in a savings account that grows over time. The account interest is typically set at market rates, although certain universal life insurance policies let you invest this account according to policy-specific rules.
In addition to the savings component, a universal life insurance policy also tends to offer much more flexibility as compared to other permanent coverage options. You can adjust your premiums and benefits according to your needs and the flexibility offered by the policy’s cash savings account.
Universal Life Insurance vs. Whole Life Insurance
Universal life insurance is similar in many ways to whole life insurance. Both are permanent policies that offer a savings component in addition to the insurance benefit. Together they are the most common forms of permanent life insurance. However, they have a few key differences.
The most important are:
• Savings Return – A whole life policy has a fixed, guaranteed rate of return. A universal policy has its rate or return set either by the market or (in some cases) your investment choices.
• Death Benefit – A whole life policy has a fixed death benefit. With a universal policy, you can adjust the death benefit as needed.
• Premium Flexibility – A whole life policy has a fixed premium. With a universal policy, you can adjust the premium by adjusting the death benefit or accessing the savings account.
The Cash Value Savings Account
Universal life insurance comes with a cash value savings account. This means that a portion of each premium goes into an interest-bearing savings account that you can access under certain circumstances. With a universal life insurance policy, money market interest rates typically set the rate of return your account will see.
In some cases, the policy will give you additional options for how to invest this money. This is not a savings account from which you can freely withdraw. It is structured, and you can only take money out of it based on certain restrictions. It is important to understand that this is not a simple investment account.
Instead, the cash value gives you alternatives to waiting for an insurance payment in old age or it can let you build in some premium flexibility. Paying higher premiums will build the value of your account faster, as this will make larger donations to your cash value savings account.
(Source: TheStreet.com)