Doing financial planning for clients generally includes making recommendations on life insurance of some kind. The particular type of policy depends, of course, on the client and the portfolio–and the need. Choices range from term to whole life to variable universal life and a host of other products, each with its own special niche of usefulness. Choices are many, and advisors must be savvy to select the best fit for their clients’ situations–particularly now, when the value of clients’ portfolios is down. Some advisors are recommending that clients replace that lost value with additional policies of various types to beef up protection for families and other potential heirs.
Enthusiasts will tell you that variable universal life can offer the the best of both worlds: the premiums that policyholders pay are invested in mutual funds offering potentially higher returns (higher than standard whole life insurance), but with a guaranteed death benefit. So you get the insurance, but can also see your money grow much faster than with a standard whole-life policy.
VUL also can be a bad choice, however, depending on the client’s risk tolerance (if an investment can go up, it can also go down, so there’s a greater risk of losing money) and on the performance of the markets in general (what goes up can come down for everybody). In the case of protecting a market-reduced portfolio through additional insurance, it would seem not to be the optimum choice.
There are other factors to consider, as well, when contemplating whether to add a VUL policy to your client’s portfolio. Particularly in the wake of the events of September 11, you must take into account a number of factors that perhaps had not been of prime importance before. You should also reexamine some areas where attention to detail could make the difference between a sound decision and a waste of time and money, or worse, a possible case for bringing into play your own unique brand of insurance–E&O.
VUL is appropriate and particularly useful in a limited range of circumstances, but that range may be narrowing due to the ferocious bear market of the past 18 months that has been exacerbated by the September 11 terrorist attacks. The main uncertainty is whether the stock market returns will be sufficient to pay current expenses of the policies and the future needs of the policyholders. And then there’s the question of whether the policy will cover your client in the event of terrorist attacks or war.
Appropriate in This Market?
John Henry McDonald, a planner in Austin, Texas, who happens to be working on getting a CLU, argues that VUL is a product to avoid, particularly in this market. Variable universal life insurance is sold through illustrations, he reminds us, and illustrations tend to assume particularly optimistic returns on policy investments. They also fail to cite returns after expenses, which McDonald says can be pretty hefty.
Those expenses include charges such as sales load (which can range from 4% to 7% of the premium per year for the first seven years); state premium tax (2% in Texas); Federal deferred acquisition charge (1%); mortality and expense charges (90 basis points); and fees for management or administration of separate accounts (75 bps). Totaling the expenses could yield close to 8%. Then remember that the investment on which the policy is based has to return not only that 8%, McDonald notes, but also the additional 12% many illustrations quote as the assumed return. In that instance, the VUL policy must post returns of 20% per year to achieve its goals. Not bloody likely, in this market.