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Posted by joetaxpayer on May 23, 2008, 1:15 pm
At a reader's request, I read a book called "The Last Chance
Millionaire" by Douglas R. Andrew. Its entire premise was that one
should mortgage up their house to the max, take the proceeds, and buy an
Indexed Universal Life Insurance policy.
The policy would credit the account with the S&P index return (no
dividends, just the index) with a 15% cap. If the index was negative,
the account would get zero, but no loss.
All withdrawals up to original principal are not taxed as return of
principal, and beyond that, are taken as a loan, which the insurance
pays off on death.
I have to admit, this was the first I've heard of such a product, and am
wondering what actual experience anyone here who sells insurance might
have with this. The tradeoff of giving up the dividend in exchange for a
guarantee of no loss seems interesting, especially with 2000-2002 still
being pretty fresh in everyone's minds.
Joe
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Posted by kastnna on May 27, 2008, 4:52 pm
I don't know much about them, but here is my companies stance on
them...
The gist of the memo is that a) the market caps are not guaranteed and
almost certain to change and b) if you believe the market goes up in
the long run, a VUL is a better investment.
A relatively new type of life insurance product has generated some
interest in the past few years. Index Universal Life is marketed as
another product that provides some of the upside potential of the
market combined with assurances that the client will never lose
money. Superficially, this seems very attractive. However, a closer
analysis reveals serious limitations, especially compared to GVUL
(guaranteed variable UL). This
product is built on a general account chassis, with 90% or more of
policy values invested in bonds. The upside performance is provided
though derivatives.
Typical Index Interest Features:
- “Indexed Interest” paid at the end of each policy year
- This “Index Interest” is tied to the capital appreciation of the
S&P 500 Index or other market index for that year.
- The percentage of participation in the equity appreciation is
usually limited by a fixed amount or a participation rate.
- The percentage is subject to a cap (usually 10% or 11%) and a
floor (usually 0% or 1%)
- Payments received after the anniversary do not generate any
interest until the year after they are received
- Values that have been borrowed are not eligible for Index
Interest
- The most significant limitation is that the company has the right
to lower the participation rate or caps at their discretion.
(Financial derivatives are only priced out at 3-year time periods
so the future price of the derivatives is uncertain)
- Because the equity kicker is provided by derivatives, the product
does not actually own the underlying securities. Therefore, the
return does not include earnings from the stocks dividends
(historically close to 40% of total returns)
- Because it is a general account product, equity index products do
not offer clients the protection of separate accounts in the event
of company insolvency.
Thus, the product is designed to be marketed as a vehicle that offers
some of the upside produced by market returns with no risk of loss in
any given year. The buyer sacrifices larger annual gains as a trade-
off
for the protection from losses.
Additional Product Features:
- Guaranteed premiums: Many of these products offer death
benefit guarantees similar to GUL products
- Surrender charge schedules can be very long – up to 20 years
- Preferred loans at 0% cost spread
For the most part, this product will function like ordinary universal
life,
with the exception that the method chosen to credit growth to the
account value is based upon a complex formula rather than a simple
interest rate.
Concerns:
- The method of “interest” crediting is very complex.
- The credited rate of interest is left, to a very large degree, to
the
discretion of the insurance company.
- Very little disclosure regarding the calculation of credited
interest is disclosed. Since there is no prospectus, and since the
product is not registered. It is very much a “black box”. Under
NASD notice to members 05-50, it is to be regulated as a
security. There remain a number of questions on what new
disclosures will be needed to adequately inform the client of the
product’s drawbacks.
- The expectations of “market gains” are very likely to lead to
disappointment, since the participation rate is not always
guaranteed; returns associated with dividends are not received
and since the S&P 500 Index does not represent a diversified
portfolio of investments. (see the attached study)
Conclusion: Compared to most GUL and GVUL, Index UL represents a
poor value to the client. If the upside potential of variable is
sought,
this upside potential is overstated in Index UL. If the guarantees of
GUL are sought, the same guarantees can usually be found at lower
rates or from much stronger carriers. Until clearer standards are
established by FINRA/NASD, these products also seem to provide the
greatest
risk of potential litigation.
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Misc.invest.financial-plan is a moderated newsgroup where Moderators strive
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Posted by rick++ on May 28, 2008, 10:19 am
Another name for this product is equity-indexed annuity -
an inurance product tied to an investment index with constraints.
You can barely turn on the TV or radio off-hours without
hearing someone hawking these. Mainly because they pay
relatively high commissions to the sellers. In turn there is
fairly long penalty period 7-12 years before significant withdrawals.
In addition there is a the federal penalty of 10% for any deferral
instrument withdrawing before 5 years.
NBC Dateline had episode in their Predator series about
insurance salesmen pushing these on retired people where
penalty period is longer than their expected lifespan (e.g. a scam).
For younger people these function just like a variable annuity.
You might calculate the products formula against the raw index
for the length of the penalty period. Salesmen often cherry-pick
optimal time periods to show their product is superior. But as the
investment period lengthens, the raw index is usually superior.
Note the formula is usually more complicated than you presented.
There are ceilings and floors and positive gain mutlipliers and
holding
commisions etc. Get the FULL formula in writing in advance. Often
you dont see this until the saleman hands you the lengthy contract at
signing time. (Many states have a 1-2 week no-penalty cancelation
period at the beginning of the contract.)
I've heard the claim from many financial advisors, but havent crunch
the
numbers myself, is that buying hybrid insurance-investment products
is inferior in perfromance and cost to buying each seperately.
I think EIAs might gain a better reputation when Vanguard
and Fidelity market them with no commissions and no penalities.
They've
done this so far with several other annuity and hedge products.
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Misc.invest.financial-plan is a moderated newsgroup where Moderators strive
to keep the conversations on-topic for financial planning. Other posting
guidelines include a request for brevity and another for trimming posts to
which we respond. For all of the other tips and suggestions, see "FROM THE
MODERATORS: Posting to misc.invest.financial-plan", a weekly post now on the
Newsgroup.
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