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Life Health > Life Insurance

Best (Worst) of All Possible Worlds

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After a wild ride during the bull market, when investments returned so much that investors grew accustomed to 20% and even 30% returns, variable universal life insurance suffered an equally wild drop during the bear market. Those high returns had kept many purchasers from fully realizing the costs and risks involved with VUL policies, but once the safety margin disappeared, VUL insurance took a beating. According to LIMRA International, the life insurance trade group, sales of VUL policies rose 28% in 2000. But then the bottom fell out: sales were down 10% in 2001, 23% in 2002, and in the first three quarters of 2003, they were down a stunning 36% (actually, LIMRA’s figures show the low point apparently in the second quarter of 2003, when premiums were down 41% from where they were in the second quarter of 2002; third-quarter premiums in 2003 were only off 32% from third-quarter results in 2002; the jury’s still out on the fourth quarter’s results, as data is still being compiled).

While VUL might have an image problem–deservedly so, many say, due to expenses and risks that are inappropriate for many to whom it was sold–a number of advisors have stepped up to say that not only do they recommend it for client portfolios, they’ve done so for years, and are still using it in the ways that were appropriate before the market’s recent gyrations.

You Gotta Know the Territory

Joseph Murtagh, a planner at the SOURCE in Goshen, New York, had his beginnings in the life insurance business in 1970, became a CLU in 1975, and had been doing financial planning “for a number of years” when VUL came out. As a planner, he says, he appreciated that it was “a very different type of insurance product” that continues to be a good product, if used by the right person for the right situations. “Every product can be abused, and certainly VUL has been abused,” but he maintains that VUL is still as appropriate today as it’s ever been. He points to its use in the estate planning area, with irrevocable life insurance trusts, to pass wealth along to future generations.

Citing the maxims that “owners of securities do twice as well as loaners,” and “stocks do better than bonds, and bonds do better than cash,” he says that VUL’s opportunity for self-direction of the investment portion is another of its attractions. The tax-deferred nature of VUL that can be used after IRA and tax-qualified plan limits have been exhausted, he points out, is also a highlight of its usefulness. “Being able to withdraw from these contracts tax-free until you’ve withdrawn your entire basis for your investment is another good feature,” he adds, “and then the ability to borrow from the account and pay only interest” is yet another, though he argues that VUL makes a great deal of sense “to many; not all, but to many.”

The problem, he says, is that the industry was selling it as a retirement product, an inappropriate use. And despite owners of those policies taking medical exams and being screened in a manner appropriate for purchasers of life insurance, Murtagh says he is still bewildered by policyholders who said they didn’t know they were buying life insurance products.

His own clients, says Murtagh, suffered no such lack of clarity, although he adds that when the market tanked in 2000, he had to call or meet with many of his clients who had VUL products to make sure they understood they would have to put in more money to keep their policies. “And because they understood that the policy was a combination of life insurance and an investment account, no one lapsed or gave up their policies during these very trying three years in the market.”

The Right Stuff

Royce Monk of The Consulting Group in Nashville, Tennessee, is another planner who believes in the virtues of VUL, under the right circumstances. “It works well when you can fully fund it,” she points out. If a client is looking for a policy with minimum premiums, she warns, “you don’t want to do that. You’re better off to buy term.”

VUL turned out to be ideal for several of her clients, she says, and tells about the one who was young, single, and with plenty of excess income. He’d maxed out his pension plan, she says, so she put him into a VUL policy. Now that he’s married and has two children, she adds, the insurance part of the VUL policy isn’t adequate, and he bought additional term insurance for protection. She notes that the VUL policy still has cash building up that he could withdraw tax-free.

The client is in the music business, and when his record company was bought out and he found himself out of work for two years, he had a cushion. “It’s a cash pool,” she explains. “Obviously, in times like this, he couldn’t have qualified for a loan at the bank; he could have been his own banker.” Another client she had was under a lot of stress at his job and was unable to get decent disability insurance. He had a large amount of cash in money markets, she says, so she suggested that he consider funding a VUL policy to build up a reserve from which he could draw if he did become disabled. “It was as good as what we could buy from the disability company,” she says, and adds that the policy also provided protection for his wife, who came from a long-lived family. “She knew that she most likely would outlive him, and it would be an extra pool of money if he predeceased her.”

Passing the Test

Alan McKnight, a planner in Atlanta who went fee-only five years ago and who used to sell insurance, says that he looks at VUL not so much as an investment as insurance that will also serve as a “second- or third-tier investment vehicle.” However, he says that he makes sure that the client’s fundamental insurance needs are met before he brings in VUL. He too relies on VUL as a possible solution for a client who’s maxed out her 401(k) or IRA options and needs “discretionary dollars and life insurance.”

McKnight puts his clients through a checklist to be sure that VUL is the right solution to their problem. First, he makes sure the client is in good health. “I want to make sure they get a good rating, preferred, not just standard or substandard.” His concern exists because VUL is not an efficient wealth accumulator, he says. With the costs associated with the insurance product, he says, it’s best to get the most dollars into the investment vehicle as possible. “I don’t want the insurance costs to eat up all the premium dollars.”

Other questions on his checklist include how much the client can afford to put into the policy on a regular basis, and whether she’s able to fund the policy at least at the target level “and preferably toward the maximum level for greatest efficiency in investment;” he notes that “the policy works really well when it’s front-loaded.” Another big issue is whether the client is willing to keep the policy in force for the rest of her life. “It’s a permanent product,” he explains, and sometimes clients think “they’ll put money away, get tax goodies, and then get out of it. If they let it lapse, they’re potentially subject to taxes and other penalties. They’ve got to make a commitment.”

Last but not least in this screening process is determining whether the client is aggressive enough to put money into equity-based subaccounts. “I don’t want to put them into guaranteed or bond-oriented accounts; they have to have an efficient, superior rate of return,” says McKnight. “If they can answer [this question] in the affirmative,” he says, “then I think they’re a good candidate.” He talks with them at that point about where they can go to find the right policy.

Planner Murtagh agrees that the client must be of the right mindset to have a VUL policy. “Some people–I call them depression-mentality people–won’t be able to sleep at night with anything other than CDs and government bonds. A VUL product would be totally inappropriate for anyone who is extremely conservative and who needs guarantees to be comfortable with what they’re doing.” Such people, he warns, often are not even comfortable with universal life products because the interest rates can fluctuate. Such safety-conscious people, he says, are better off accumulating less than taking the risk inherent in either the stock market or a VUL policy.

Murtagh’s code of ethics means he should make the same recommendation for a client that he would make for himself. If it’s appropriate, he says, for a client’s risk and return characteristics, then whether the market goes up every year, is extremely volatile, or goes down for three years running, VUL should still be appropriate. It’s no different, he adds, from someone owning a stock portfolio or mutual funds and being a long-term investor.

So how are insurance companies addressing the flight from VUL into more secure products, for those who don’t have the moxie to stick with a bumpy ride? They’re adding guarantees, according to several industry experts, offering more self-direction, and lowering the perceived cost of the product.

Ruth Manka, senior VP of variable life products at GE, says that GE now offers self-directed charges on its VUL policies: the ability for contract holders to direct where their monthly charges come from. “In a down market, they can [direct that charges be taken] out of less volatile investments,” she explains. People are buying more riders than they used to, she adds. Secondary long-term guarantee riders are popular, as are lifetime riders on death benefits.

Two for One

According to Les Lovier, VP in the life product development area of AXA Financial, carriers are coming out with two different products. In the past, if someone bought a policy and funded it heavily, he expected to be able to take money out at retirement. On the other hand, if someone really bought it as a protection product and didn’t fund it heavily, it was supposed to work for that purpose, too. Insurers recognize now, he says, that if they want to design an accumulation product with a death benefit, the charge structure would differ. To this end, he says, AXA is looking at the possibility of offering two different products: the one the company already offers (listed in our VUL directory, which follows), which offers good protection, and a separate accumulation product designed for people who want to put more into the policy “with flexible premium contracts; they can get a decent investment performance, a lot of cash value, and a lot to take out.” Such a product may be available by the end of the year, he says.

Lovier also talks about the five asset allocation funds AXA offers, from conservative to aggressive. “If [the client] fits into any category, she can do 100% in that asset allocation fund; it’s a simpler way for the agent and the client to determine a funding level, and then the manager of the fund determines which fund within the product they will use.”

Kevin Bachmann, executive VP of sales and marketing for Western Reserve Life, also touts the insurer’s asset allocation options. WRL has a joint project with Morningstar, he says, in which the client invests in an asset allocation portfolio instead of a single subaccount with one investing style. Morningstar has built four different models: conservative, moderate, moderate growth, and growth. A moderate growth investor would be “70% in stocks, 25% in bonds, 5% in cash,” says Bachmann. This approach offers better options to the client, since many growth funds, for instance hold the same stocks. “If we’re downloading holdings of, say, two different growth accounts, Morningstar will invest in subaccounts to avoid duplication of holdings.”

And Jeffrey Carleton, VP of life sales at Mass Mutual, is “excited” about the new VUL policy from Mass Mutual (patent pending) that is guaranteed to stay in force until age 100 and pay a death benefit if a designated premium is paid.

Whether guarantees are included or not, advisors should remember to consider all aspects of a VUL, including its fees, when deciding whether it’s appropriate for a client. Comfort factors include not only guarantees, but also interest rates, asset allocation, and the suitability of the client to the particular policy.

Marlene Y. Satter is a freelance business journalist who can be reached at [email protected].


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