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This advisor's view: choose VUL for the long term.

CHASING RETURNS OR TRENDS has proven not to be in the best interest of the permanent life insurance investor or policy owner.

We'll look at why that is so and then explore how variable universal life insurance is the permanent life product that best addresses not only long-term investment performance but also client need for transparency and disclosure.

Regarding the chasing of yields, it still happens. Consider the late 1990s, when the tech boom and bull market for stocks were going full throttle. Most insurance policies issued then were VULs--not surprising, given that VULs allow investment in multiple equity and fixed income alternatives.

During that period, investor interest in using equity yields to lower out-of-pocket premium payments was at an all-time high.

From 2000-2002, however, VUL policy purchasers were burned by losses sustained within their contracts by the prolonged bear market. So, though the economy picked up in 2003 and 2004, a considerable shift occurred in insurance purchase preference. Sales of guaranteed death benefit universal life insurance increased. That, too, was not a surprising trend, given that such ULs take all investment risk out of the hands of the policy owner, with the insurance carrier guaranteeing to set the premium funding requirements. In the post-recession economy, that was a powerful selling point.

Unfortunately, contract holders who converted VULs to guaranteed death benefit ULs in 2003 and 2004 missed the positive market returns that occurred in that period. Once again, those focused on chasing returns or trends lost out.

The message for advisors and clients is clear: Time frame must be a consideration when deciding which type of permanent policy, based on yield alternatives, is suitable to each situation.

Most life insurance purchases are long term. Hence, the year-to-year yield is not as important as the 10- and 20-year yield result. Thus, purchasers with an investment horizon (life expectancy) of 10+ years are well advised to purchase VUL insurance. Historical data suggests that long-term investments in equities (available in a VUL contract) outperform similar investments in fixed-income equivalent yields (as found in whole life or UL contracts).

Commensurate with the investment risk of VUL, higher hypothetical long-term yields should reduce the amount of premiums required to fund future death benefits.

Policy owners need to be informed of the potentials involved in their choices. This is where transparency and disclosure come into play.

In the insurance industry, the evolution from whole life to VUL insurance has created new standards for transparency and disclosure. Table 1 shows the differences between information available to life policy owners, via disclosure, based on policy type owned.

WL insurance always has been criticized for its lack of disclosure of dividend calculations to policy owners. Earned rate and crediting rates can be found, but they are buried in the insurer's annual report. The only benchmarking a WL policyholder can do is to calculate the cash value internal rate of return year-over-year.

As for UL insurance, disclosure of the crediting (net) rate is available on a monthly basis, and it is often summarized on the annual policy value statements. However, earned (gross) rates for the entire portfolio, from which this crediting rate is derived, are not disclosed to the owner.

What about VUL insurance? This allows for complete transparency. Quarterly statements report gross and net yields on the underlying portfolio subaccounts, along with the various monthly charges, which are deducted from the portfolio subaccounts. Managing and benchmarking VUL is consequently uncomplicated and straightforward.

Therefore, the recent popularity of the guaranteed death benefit ULs represents a reversion to the type of life insurance that lacks both transparency and control of the investment of the underlying investment.

Ultimately, deciding which type of policy is most suitable for a given situation may be categorized into a few key objectives, as shown in Table 2.

If the objective is to have the lowest possible outlay of premiums, the solution is VUL insurance. If the objective is low relative outlay of premiums with downside protection, the solution is UL insurance. And if the objective is absolute guaranteed performance with no downside risk, the solution is guaranteed death benefit UL.

As for whole life, it appears that guaranteed death benefit UL has, at least for now, replaced it as the most efficient product when the primary objective is to guarantee death benefit without performance risk.
TABLE 1
KEY DISCLOSURES FOR LIFE INSURANCE PRODUCTS

                            Insurer's           Gross
                            Portfolio         Credited
Product                       Return            Rate

Whole life                No disclosure    No disclosure

Guaranteed rates
for for NLG death         No disclosure    No disclosure
benefit Universal Life

Universal Life            No disclosure    Full disclosure

Variable universal life   Not applicable   Full disclosure

                                              Cash Value
                           Net Credited      Internal Rate
Product                        Rate         of Return (IRR)

Whole life                No disclosure     Calculable

Guaranteed rates
for for NLG death         No disclosure     Calculable
benefit Universal Life

Universal Life            No disclosure     Calculable

Variable universal life   Full disclosure   Full disclosure

Source: Sean Maher, Valley Forge Companies, King of Prussia, Pa.

TABLE 2
MATCHING PRODUCTS TO OBJECTIVES

                                     Guaranteed      Universal
Objective                         Death Benefit UL     Life

Lowest outlay of premiums                NA             NA

Downside guarantees
with low relative premium                NA             Yes

Absolute guaranteed performance         Yes             NA

                                     Variable      Whole
Objective                         Universal Life   Life

Lowest outlay of premiums              Yes          NA

Downside guarantees
with low relative premium               NA          NA

Absolute guaranteed performance         NA          NA

Source: Sean Maher, Valley Forge Companies, King of Prussia, Pa.


Sean Maher, CFP, is president of Valley Forge Financial Group, King of Prussia, Pa., an M Group member firm specializing in estate and financial planning for high-net-worth clients. His e-mail address is smaher@vffg.com.
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Title Annotation:PRODUCTS; variable universal life insurance
Author:Maher, Sean
Publication:National Underwriter Life & Health
Geographic Code:4EUUK
Date:Jun 27, 2005
Words:919
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