What Is Index Variable Universal Life Insurance (IVUL)?

Index variable universal life insurance (IVUL) is a new type of permanent life insurance product that allows the customer to participate in more upside in exchange for taking on some downside. The product offers many unique designs that allow the customer to choose different return profiles for their cash value account.

Like all universal life insurance, index variable universal life is a permanent product with both a death benefit and a cash value account. The cash value account is a hybrid of index universal life (IUL) and variable universal life (VUL). Hence, the alternative name for IVUL is hybrid UL.

With IVUL, you accept some downside market exposure to be able to participate in more upside. There are a lot of unique account value strategies that you can use with index variable universal life that makes this a very intriguing product that is hitting the markets.

IVUL products come on the heels of index variable annuity (IVA) products which introduced the structured payout design.

So what is IVUL and is it the right choice for you?

What is Index Variable Universal Life Insurance (IVUL)?

Index variable universal life is a new type of life insurance product that is being sold. It is a hybrid of variable universal life (VUL) and index universal life (IUL).

• IUL is a product that credits the cash value account based on the returns of an equity index, typically the S&P500.
  • IUL has a floor of at least 0% and a cap that differs.
  • If the equity fund has a negative return, you get 0% credit and no account value growth.
  • If the equity fund has a return above the cap, you get credited the cap.
  • And if the equity fund has a return between the floor and cap, you get credited the equity return.
• VUL allows you to invest your cash value account directly into the market similar to your brokerage account. You get all the upside, but also all the downside of market changes.

IVUL keeps the indexing of IUL, but allows for the returns to be negative. In exchange for taking on some downside, IVUL products are able to share more of the upside. Often this means they are uncapped or in many cases they have a multiplier that allows for higher returns than the equity index.

The insurance company will offer different portfolio strategies for you to allocate your funds to. Each strategy will have a pre-determined range of returns. Then, depending on what the reference fund (ie-S&P500) returns over the period, your account value will grow or decrease by the corresponding amount.

Behind the scenes, the insurance company is investing in a mix of bonds, options, and other derivatives to achieve the different designs. That means you can benefit for complex investment structures.

Additionally, IVUL is a permanent life insurance product meaning that as long as you pay the required premiums, your beneficiaries will get a death benefit if you die.

One of the first IVUL products listed to be sold was Nationwide’s IVUL, but many companies have plans to launch there product soon.

What Is Life Insurance?

Life insurance is a financial product where you pay premiums to an insurance company and in return the life insurance company will pay a death benefit to your named beneficiary if you die while the policy is inforce.

Life insurance is vital to your personal finances, especially if you have dependents. It is one of the key products under the protection group of the 5 pillars of personal finance.

However, life insurance can be confusing and the barrier to purchase it are high. There are dozens of different types of insurance products. And each of the numerous insurance carriers has their own unique versions of the product.

How Index Universal Life Products Work

Index universal life (IUL) is the precursor to IVUL. Both products (IUL and IVUL) have a pre-determined range of returns on your account value. Instead of investing your account directly into the underlying asset, the insurance company credits your account based on what the underlying asset does.

Index UL (IUL) Example:

For example, most IUL products have a 1-year S&P500 point-to-point investment. This means that the return to your account value will be based on the performance of the S&P500 over 1 year. However, you don’t directly buy the S&P in your account like you would with a VUL product. Instead the insurance company buys a portfolio of bonds and options on the S&P to create a payoff structure.

If you get a product with a 0% floor and 8% cap, this means:

• If the S&P returns a negative number, your account gets credited 0%
• If the S&P returns a number over 8%, your account gets credited 8%
• If the S&P returns a number between 0% and 8%, your account gets credited the S&P return

Since the S&P tends to have a high positive return in the majority of years, an index product should have a higher lifetime return than a guaranteed UL product with a fixed crediting rate.

As the insurance market evolves, indexed accounts have added different designs. Additionally, they have allowed for indexing against other underlying assets than just an S&P500 fund. Finally, they also expanded the time frame to be longer than 1-year point-to-point and included mid-period step-ups and lock-ins.

Differences Between Index UL (IUL) and Index Variable UL (IVUL)

The main difference between an index UL (IUL) product and the new index variable UL (IVUL) product is in the ability to have a negative return. IUL has a floor of at least 0%, that is required by the product. The return on investment in your account can not go negative no matter how poor the performance of the underlying fund.

This limits the flexibility of IUL and puts a fairly low cap on the upside.

IVUL allows for negative returns on the account, however since you share some of the downside, you get the opportunity to have a much higher upside. By taking on some downside risk, you often can have an uncapped upside or even a multiple on the underlying fund’s returns.

This means if the underlying asset (S&P) goes up 20% in a year, you aren’t capped at a low single-digit cap in IVUL unlike in IUL. You may be able to get the full 20% gain in your account, or even more, depending on the strategy you allocate to.

Also worth noting, if the investment can lose money it requires additional licensing from the insurance sales agent. Any insurance product that can have negative returns on its cash value account requires an investment license from the agent. This means many agents will not be allowed to offer IVUL.

Different Designs of IVUL

There are 3 main designs that customers can choose from with index variable universal life insurance (IVUL):

1. Buffer – In a buffer design, the insurance company absorbs the first X% of losses for the customer. If the buffer is 10% and the S&P500 is down 12%, the customer only has a 2% loss.
2. Deductible – In a deductible design, the customer absorbs the first X% of losses but has their losses capped. If the deductible is 10% and the S&P500 is down 12%, the customer only has a 10% loss.
3. Participation Rate – Participation rate (par rate) determines a multiplier on the return of an underlying fund. An 80% participation rate means the account is credited 80% of the underlying fund while a 125% par rate means the customer gets 125% of the return.

In exchange for taking on downside risk, the customer is able to receive more upside. Often IVUL products are uncapped, meaning they can get all the upside of the underlying equity returns.

Additionally, these 3 designs can be combined, for instance a 10% deductible and an uncapped 125% par rate means the customer gets 125% of any positive equity return while their total annual loss is capped at 10%.

IVUL Buffer Account Example:

One design element of IVUL is a buffer account. Buffer accounts are when the insurance company takes the first X% of losses on the return of an index.

For example, if you have a 10% buffer and the index returns a negative 5%, then your account value will have a 0% return. You avoid the losses.

However, if the index returns a negative 15% return, the buffer covers the first 10% of losses and your account would get the remaining 5% negative return.

By taking on some of the downside risk, the insurance company is often able to pass along an uncapped return to the upside.

Buffer accounts will perform well if the index has years of smaller negative returns and large positive returns. Then the buffer will absorb any negative returns, while you get all the upside from the equity market.

IVUL Deductible Account Example:

A deductible account sees you swapping spots with the insurance company in the buffer example. With a deductible IVUL account, you take the first X% of losses in the index. But your total losses are capped at the deductible amount.

(Or greatly reduced after that point depending on the the product. Some designs have you keep a percent of losses after the deductible, similar to coinsurance on your health insurance. For instance, you take 100% of loss up to 10%, then only 20% of losses after 10%.)

The example here uses the same 2 scenarios, a -5% index return and a -15% index return. But with a deductible account your account value will decrease at a capped 10% if the reference fund decreases by 15%.

Therefore, when the index has a negative 5% return, your account value decreases by 5%. And if the index has a negative 15% return, your loss is capped at 10%.

Deductible accounts also tend to be uncapped to the upside. So if you think the market is going to have very volatile years of big losses followed by big gains, this is a way to outperform by capping downside and keeping all the upside.

Portfolio Strategy Selection in IVUL

It is important to note that you are typically able to switch your portfolio strategy in an index variable universal life product. The portfolio strategy selection is usually for a calendar year. And when the segment you invested matures, you are able to select a new portfolio strategy.

For instance, if you had a buffer account strategy and after the 1 year point-to-point period ends you could elect a deductible or participation rate strategy.

Also, it is important to note that most strategies are a combination of the 3 designs. You may have a deductible with a 20% par rate for losses after the deductible, and have a 120% par rate on any positive returns. This means that if the S&P index returns 10%, your portfolio get 12% growth.

The combinations are endless and each company can choose different payout patterns that it thinks is optimal for the consumer.

The Final Word – Index Variable Universal Life (IVUL)

IVUL products are an exciting addition to the world of UL insurance. With the various design types, insurance companies can make all sorts of pay out structures to fit customer’s needs.

IVUL products can try to minimize downside while offering unlimited upside, or offer the customer more downside for a leveraged return on upside, or meet any risk profile.

And while the account value growth can be strong (and tax-deferred), you also get the death benefit coverage of an insurance product.

Frequently Asked Questions (FAQs):