Universal life insurance: how it works and why you are interested
If you are looking for life insurance, you should know that there are several types and that each one is better in some circumstances than in others. If you want insurance for a specific time, the most appropriate is a term or fixed term insurance. On the other hand, if what you are looking for is insurance that accompanies you throughout your life, it is best that you opt for permanent life insurance.
Within permanent insurance, there are more traditional and rigid and others that offer more flexibility. If you are interested in having a policy that meets your needs instead of adjusting yours to yours, what is best for you is universal permanent life insurance. In this article, we explain what universal life insurance is and how it works.
Universal life insurance: how it works and why you are interested
Permanent life insurance: What you will find in this article
What is universal permanent life insurance?
How Universal Life Insurance Works
Types of permanent universal insurance
Advantages of taking out universal insurance
What is universal permanent life insurance?
Permanent life insurance is products that are contracted with the intention of accompanying the long life of the insured. Insurance companies have that the average life expectancy is very long in developed countries, so they design policies designed to be paid over many years, and high compensation that will be delivered to the people or institutions designated by the insured when he dies.
Within these permanent insurances, there are different types. In general, all have a similar basic operation but differ in the degree of flexibility and in the ability of the insured to modify their operation.
The most classic permanent insurances are called total life insurance or traditional insurance. They are those in which premiums and compensation remain level all the time so that there are hardly any alterations and the insurance shows a predictable and stable behavior.
If the insured wants to have more control over their money and risk a little more, they can opt for life insurance for their parents. In this case, part of the premium money is dedicated to investing in equity products, which means that part of the final compensation fluctuates with the profits or losses of those investments.
And finally, there are universal life insurance (and the combination of universal and variable ). In universal type insurance, you will have many options that you can configure to your liking and depending on your needs. The most important thing is that you can modify the monthly premium payments to adapt them to your financial situation. That way, if you need to pay less for a while because you need your money for another purpose, you can modulate your premiums and pay a lower amount. In some cases, you can even completely suspend the payment for a while.
Of course, variations in premiums can alter the value of the policy, that is, the final compensation. Therefore, it is important that you know in detail how this universal insurance works.
In addition to this possibility of modifying the premiums, variable insurance also allows modifying the so-called death benefit or compensation. In this way, the cost of the insurance also varies depending on the amount of that final compensation.
To allow this flexibility, universal life insurance has an investment instrument that can be a savings account that generates guaranteed interest. That money is what the company uses to cover the times when premium payments are reduced. In the variable universal insurance modality, these accounts can be for investment in variable income financial products.
How Universal Life Insurance Works
Since flexibility can sometimes be synonymous with complexity, it is important that you know in detail how this universal life insurance works. They have several elements common to other permanent insurance, but the differences are notable in some cases. These are its main components and its particularities:
Qualification. As in any permanent life insurance, the insurer will ask you to go through a qualification process in which you must demonstrate your health status and what your lifestyle habits are. Also, your age matters – the younger you are, the easier it will be for you to qualify for insurance.
In the rating process, it is very important, to be honest, and honestly answer the questions asked by the insurer. One of the biggest mistakes made when taking out life insurance is hiding information because if the company discovers it later, it can cancel the policy. Do not deny any information and submit to all the tests that they ask you, which may include blood tests, X-rays, and other tests.
Compensation. The compensation or death benefit is the money that your beneficiaries will collect if you die. It is important that you know that it is tax-free money. Remember that if you reach 95 or 100 years, the policy could reach what is called maturity and you would directly collect the compensation even if you have not died.
In the case of universal insurance, the amount of compensation can be adjusted as you need it. If you prefer to pay lower premiums, you can do so by reducing the death benefit. And if you increase the compensation, your monthly premiums can increase. You may be interested in a reduction of the benefit if your life is already resolved and also that of your children or successors. Thus, you can ask for the compensation to be reduced and you will pay lower premiums.
Beneficiaries. They are the people or institutions that will collect the compensation if you die (unless you collect it due to the maturity of the policy). You can always change them and determine alternative beneficiaries who charge if the originals die: you can designate up to tertiary beneficiaries, the third parties in the order of access to the money. Choosing the beneficiaries of life insurance it is important and should not be done in an unplanned way. Many people name a beneficiary to a trust fund that manages the money according to their instructions. Others prefer that the money become part of their inheritance. If you choose this last option, you should know that inheritances go through complex legalization processes that can greatly delay the delivery of the money to your heirs. In any case, it is always remembered to warn your beneficiaries of their condition so that they can claim the payment if you die.
Cousins. Flexibility in premiums is a great advantage of universal life insurance. You can choose to pay a monthly minimum when it suits you, or stop your payments for a specific period in which you cannot afford the cost. Or, on the contrary, pay everything that the contract allows and thus redeem future premiums and have periods in which you do not need to pay. This ability to choose is a great comfort because it helps you overcome moments of financial difficulties.
Universal insurances allow this flexibility of the installments because they displace a part of the risk they assume to the insured himself: If the premium payment is reduced, the compensation is also reduced. It may even be the case that the policy lapses if there is not enough cash value to cover the insurance and the expenses generated by the maintenance of the policy itself.
Savings instrument. Permanent life insurance has savings or investment mechanisms. They take a portion of the money you pay with premiums and put it in savings accounts that earn interest, or investment accounts that earn interest in a guaranteed way. They can also use investment accounts and you can decide yourself in which products your money is invested. In the case of universal insurance, this section becomes very relevant, because the flexibility of premiums and compensation is also linked to the savings generated by the insurance, which accumulates in the form of cash value.
Cash value. Like all permanent insurance, the universal modality also accumulates the so-called cash value. It is an amount that is generated with the payment of the premiums. In the first years of insurance life, while you are young, you pay more than it costs to insure your risk. From this surcharge comes the money that the company invests to generate savings. Little by little, that amount accumulates. A part will add to the death benefit, but there will still be a surplus that, at a given moment, is mandatory to be made available to the insured. You can use it to redeem future premiums or whatever you prefer. Also, you can borrow against the future amount of the cash value. These loans are offered at very low interest, but it is necessary to pay them back. If not, the insurer will use part of the compensation to cover them. What’s more, if you take an amount that exceeds the value of the policy, it could be canceled.
In the case of universal life insurance, keep in mind that if you decide to suspend or reduce the payment of premiums, the company will take money from the cash value to cover what you do not pay. So be sure how much cash value you keep because if it drops to zero, the insurer could void your policy. In this type of insurance, it can also be used to borrow. If you use your cash value for a loan, make sure you pay it back – otherwise, your final award could be dramatically reduced. What’s more, if you take an amount that exceeds the value of the policy, it could be canceled.
Finally, remember that your beneficiaries will not receive any of the cash value, only the compensation, so it is important that you manage that money. If not, the company will keep any cash value that you did not collect at the time of your death.
These are the main components of universal insurance. As you can see, it is an attractive product due to its flexibility and the configuration capacity it offers, and it is also a type of insurance that requires your attention so as not to neglect yourself and lose coverage or guarantees.
Sometimes, to avoid those problems of expiration or nullity of policies, universal insurance includes a clause of secondary guarantee or benefit of insurance premiums without expiration. With this option, even if the cash value drops to zero, the policy is prevented from expiring. It is a useful clause to cover any alternative risk, but it involves an additional fixed amount to be paid, in addition to the usual premiums.
Permanent insurance, in addition, usually includes other clauses that modify its basic operation. In general, these premiums make insurance more expensive, but they bring other benefits. The most frequent clauses are these:
Accidental death clause. If you die in an accident, your beneficiaries receive an extra amount in compensation.
Expedited death clause. If you suffer from a serious illness and they give you a life expectancy of less than a year, you can request the benefit and collect it.
Payment exemption clause in disability situations. If you suffer from a disability that prevents you from generating income, this clause frees you from paying the premiums.
With these fundamental notions about how universal insurance works, you can now make a better choice for universal insurance. But you must first know what basic formats the companies will offer you.
Types of permanent universal insurance
When choosing insurance of this type, there are several possibilities. The different degrees of flexibility in the configuration determines the fundamental division into three types of universal permanent insurance:
Universal single premium insurance.
The most basic – and nowadays less used – is the so-called single premium. It is insurance that is paid through a single initial premium that serves to pay for the coverage and the contributions required to generate the cash value. In many cases, they allow you to make subsequent contributions to the cash value of the policy. This option is interesting if you have a significant amount of money and you want to put it in a not very complex product, that produces safe savings and that in the long term provides you with extra money. With these types of policies, by handing over all the money at once, the cash value is generated very quickly and savings are easily produced.
Universal fixed premium insurance
In this case, periodic premium payments are marked that cannot be modified. Payments can be scheduled to be made during a specific time and thus quickly pay off the policy. At other times, they are set for the life of the policy. In any case, there is a guarantee of non-interruption of the policy, which remains in force even if payments are missing.
Universal flexible premium insurance.
The third mode allows you to vary the premiums within a few margins. You can always make modifications to what you pay with premiums, but remember that it is important that you build up cash value. If you stop doing it and the cash value is not enough to pay the cost of the insurance that your premiums are not covering, you could see the policy lose its validity.
On these bases, insurance companies make particular modifications that qualify and enrich universal insurance. But, in essence, these are the types and characteristics that exist.
Advantages and disadvantages of taking out universal insurance
Now that you know how they work and how many types there are, you should know what advantages universal life insurance offers you. These are:
Flexible payment. The ability to pay more or less depending on your needs is perhaps the most important advantage of universal insurance. And, as long as your insurance maintains cash value, your coverage is guaranteed even if you are paying the minimum or even nothing. The cash value can also be used to amortize premiums, but always being careful not to exhaust it or cause it to fall below a certain limit, because it could cause the expiration of the insurance. If you are interested in saving a lot, it is advisable to pay higher premiums while you are still young. That way, the cash value will grow faster and you will have it available sooner. In addition, this way you can reduce your premiums when you are older and want to use your money for other purposes.
Guaranteed interest. This type of universal insurance uses savings accounts that guarantee a minimum interest that never falls below a certain level. Therefore, they are very valuable instruments to save and many people hire them for that purpose.
Death Benefit Options. The flexibility of universal insurance allows you to have different options when determining what your insurance compensation will be like. You will be able to choose a level or increasing death benefit. In the first case, the compensation will always be that stipulated in the face value of the policy. In the second option, the increasing or incremental one, your beneficiaries will receive compensation that will be the nominal value of the policy plus the value of the savings account. Naturally, each of these options modifies the cost of the premiums.
Adjustable compensation. In addition, you can adjust the amount that will be paid as a death benefit, always within limits. For example, if your economic situation improves and you think that you will not need such a high compensation, you can ask for it to be reduced, which will also mean lower premiums. This is an option that many policyholders whose lives are already resolved and they do not have people dependent on them.
On the other hand, if you want more coverage, the company may ask you for a new qualification process with new medical exams.
On the side of the disadvantages we can mention:
The added value is not guaranteed, because you may have spent it on paying off premiums or making loans. This can cause your added value to go down quickly, but it doesn’t always pay off as quickly afterward. If you have lowered your premiums, it will take much longer to recover it. Therefore, always keep these balances in mind so that your insurance remains in force and continues to accumulate cash value.
Responsibility. Universal insurance allows you to make many decisions, but that requires knowledge, information, and responsibility. It is very attractive to be able to skip a premium when it is convenient, but it is necessary to have the discipline to pay again because otherwise, you can put your insurance in danger.
Complexity. These policies are more complicated to operate than, for example, full life ones. Therefore, premiums are also cheaper. This complexity also sometimes makes it difficult to understand the insurance mechanisms and can be frustrating if the savings are not as expected. Inform yourself properly when you go to subscribe to your insurance.
Taxes. If when you die there is a loan to repay, in addition to being covered with part of your compensation, it could be subject to taxes. And if you cancel the policy, the income you receive with your added value will also pay normal taxes (in case of accessing the added value normally, the taxes are deferred).
Expenses. Insurance also involves expenses and fixed costs. Some common ones are administrative costs, commissions, or the extra cost to redeem the policy.
Now you know how it works and what are the characteristics and advantages of universal permanent insurance. If you are thinking of taking out life insurance, value this option as one of the most attractive and profitable and also as one of the ones that offer you the most control in deciding what to do with your money. And remember that, before hiring your policy, it is convenient that you ask for several quotes and speak with an expert insurance agent to explain every detail of the insurance.
6
20
20
