Indexed universal life (IUL) has passionate fans and harsh critics. The truth is usually in between: it’s a tool that fits some people well and others poorly. This article lays out the pros and cons in plain English. If you’re new to IUL, start with our explainer, What Is Indexed Universal Life Insurance?
Quick takeaway
- IUL offers permanent coverage, flexible premiums, and interest credits tied to an index with a floor.
- The trade-offs include caps on credits, charges that rise with age, surrender charges, complexity, and lapse risk if underfunded.
- It tends to suit people who can fund it consistently for many years and will review it regularly.
- It’s life insurance first. Treat any cash value growth as uncertain, not as a promised return.
The pros
Permanent coverage
An IUL is designed to provide a death benefit for life, as long as the policy stays adequately funded. That can matter for estate planning, a spouse who depends on you, a special needs family member, or leaving a legacy.
Flexible premiums
Within limits, you can pay more in good years and less in tight ones. Whole life usually requires a fixed premium. This flexibility can help business owners and people with variable income.
A floor on index credits
Most index accounts have a floor, often 0%, so a down year in the index doesn’t produce a negative credit. That’s different from investing directly in the market.
Potential for interest tied to an index
When the index rises, the policy may credit interest up to its cap or other limits. Results vary from year to year.
Access to cash value
Like other permanent policies, an IUL may let you borrow against or withdraw from cash value. These options reduce the death benefit and can carry risks and possible tax consequences.
Riders
Many IULs offer riders, such as accelerated death benefits for terminal or chronic illness, which can add flexibility. Availability and cost vary.
The cons
Caps and limits on the upside
Caps, participation rates, and spreads limit how much interest you can earn. Insurers can change many of these for future periods, within contract minimums.
Charges that rise with age
The cost of insurance usually increases as you age. If the policy isn’t well funded, those charges can drain cash value in later years.
Complexity
There are many moving parts: index accounts, crediting methods, charges, riders, and loan options. That complexity makes it harder to compare policies and easier to misunderstand them.
Surrender charges
Most IULs have surrender charges for many years. Canceling early can mean getting back much less than you paid.
Lapse risk
If premiums are too low, credits are lower than illustrated, or loans grow too large, the policy can lapse. A lapse with an outstanding loan may also create a tax bill.
Illustrations aren’t guarantees
Projections are hypothetical. The NAIC’s Actuarial Guideline 49-A limits illustrated rates and requires an alternate scale ledger, but even a compliant illustration isn’t a forecast.
Who an IUL may fit
- People who need permanent life insurance and can fund it consistently for many years
- Those who value premium flexibility, such as business owners
- People who have already covered basics like emergency savings and term coverage for family needs
- Buyers willing to review annual statements and in-force illustrations, and adjust funding if needed
Who it may not fit
- Families who need the most coverage for the lowest cost during working years, where term life is often a better match
- People who might drop the policy in the first several years
- Anyone counting on a specific rate of return
- Buyers who don’t want to monitor a policy over time
IUL and retirement income
You’ll often see IUL marketed as a source of retirement income through policy loans. That can work under some conditions, but it depends on the policy being well funded, on non-guaranteed crediting, on loan interest, and on careful monitoring. If credits come in lower than illustrated, the plan may need more premium or smaller loans to avoid a lapse. Don’t buy an IUL based on a promised income stream. Our article on IUL red flags explains what to watch for.
How IUL compares with whole life and term
- Term usually provides the most death benefit for the lowest premium for a set period.
- Whole life offers fixed premiums and guaranteed cash value, plus possible dividends on participating policies.
- IUL offers more flexibility and index-linked crediting, with fewer guarantees and more moving parts.
See our side-by-side guide: IUL vs. whole life.
Questions to ask before buying
- What are the guaranteed values in the illustration, and when would the policy lapse on guaranteed assumptions?
- What are the current and guaranteed minimum caps and participation rates?
- What are all the charges, and how do they change with age?
- Is there a no-lapse guarantee rider, and what does it require?
- What premium do I need to pay to keep the policy healthy under the alternate scale?
- How long do surrender charges last?
Frequently asked questions
Is IUL a good investment?
IUL is life insurance, not an investment account. Its cash value growth depends on non-guaranteed crediting and charges. It may suit some people who need permanent coverage and can fund it well.
What is the biggest risk of an IUL?
Underfunding. If premiums are too low or credits are lower than illustrated, rising charges can drain cash value and cause a lapse.
Can an IUL replace a retirement account?
It’s not designed to. Some people use cash value loans in retirement, but results aren’t guaranteed and heavy borrowing can cause a lapse. Talk with a financial professional.
Who should consider an IUL?
People who need permanent coverage, value premium flexibility, can fund the policy consistently, and will review it regularly.
Next step
Eric can show you how an IUL compares with term and whole life for your goals, including the guaranteed column. Learn more about life insurance with Eric Henry, Insurance Agent, or start with our term vs. whole life guide.
Coverage descriptions are general information only; your policy documents determine actual coverage. Availability varies by carrier.
