Universal Life Insurance Canada
Darren and Christina break down the differences between universal life and participating whole life insurance policies.
Pros, Cons, and How It Stacks Up for Infinite Banking
In the world of financial planning, the debate between universal life and participating whole life insurance policies has been a longstanding one. As experts in the field of the Infinite Banking Concept, we at Control and Compound have a deep understanding of the nuances between these two products and which one is truly the best fit for this powerful wealth-building strategy. In this comprehensive blog post, we'll dive into the key differences, advantages, and disadvantages of each policy type, empowering you to make an informed decision for your financial future.
What is a Universal Life Policy?
Universal life insurance policies first emerged in the 1980s, a time when the stock market was booming, and investors were seeking higher returns than the traditional whole life policies could offer. The premise of universal life was to provide a death benefit, while also allowing policyholders to invest a portion of their premiums in the stock market or other investment vehicles. This flexibility was seen as a significant advantage, as it gave individuals more control over their policy's growth and the ability to potentially outpace the fixed dividends of whole life insurance.
Fees associated with Universal Life
One of the primary drawbacks of universal life policies, especially those from the 1980s and 1990s, is the high level of fees associated with them. Insurance companies often used smoke-and-mirror tactics to make the policies appear more attractive, such as illustrating unrealistic returns of 12-15% per year and including "guaranteed bonuses" or "performance-based bonuses" that were, in reality, just hidden fees. These fees could easily reach 4-5% or more, significantly eroding the growth potential of the policy's cash value.
In contrast, participating whole life policies typically have much lower fees, often in the range of 0.1-0.18%, allowing the cash value to compound more efficiently and with less interference from excessive charges. This fee differential is a critical factor when considering the suitability of each policy type for infinite banking.
Volatility of a Universal Life Policy
Another significant difference between universal life and participating whole life policies is the level of volatility. Universal life policies, with their market-linked investment components, are subject to the ups and downs of the stock market. This can lead to significant fluctuations in the policy's cash value, which can be problematic when trying to access funds for the infinite banking strategy.
Participating whole life policies, on the other hand, have a much lower volatility profile. The historical dividend paid on these policies has a standard deviation of around 1.5%, compared to the stock market's 16% over the same period. This stability is crucial when you need to access your policy's cash value, as you can be confident that the funds will be there when you need them, regardless of market conditions.
How much can you access from each policy?
The accessibility of the cash value is another critical factor when comparing universal life and participating whole life policies. Due to the volatility inherent in universal life policies, insurance companies typically only allow policyholders to borrow up to 50% of the cash value. This limitation can be a significant hindrance when trying to leverage the policy for infinite banking, as you may need to access more than half of the available funds to take advantage of investment opportunities.
In contrast, participating whole life policies often allow policyholders to borrow up to 90% of the cash value. This higher borrowing capacity provides much more flexibility and control over your financial resources, which is essential for the infinite banking strategy.
What are the tax advantages of each policy?
Both universal life and participating whole life policies offer tax-advantaged growth and death benefits. However, the specific tax advantages can differ between the two. Universal life policies allow for tax-deferred growth on the investment portion of the policy, similar to a traditional investment account. But when it comes to accessing the cash value, any withdrawals above the policy's cost basis (the amount of premiums paid) may be subject to taxation.
Participating whole life policies, on the other hand, offer a more comprehensive tax advantage. The cash value growth is tax-deferred, so the policy loans used in the infinite banking strategy are typically tax-free up to the cost base, and third-party loans are always 100% tax-free. While it may be possible to get third-party loans on universal life, the options are quite limited and typically do not reach anywhere near 90% tax-free, meaning whole life has a clear advantage in this field.
Why is there confusion between the two policies?
The confusion between universal life and participating whole life policies often stems from the way they are illustrated and presented to consumers. Insurance companies and advisors may use similar projections and assumptions, making the policies appear more alike than they truly are. However, the underlying mechanics and long-term performance of these two products can be vastly different.
For example, universal life policies may be illustrated using a guaranteed 5-6% rate of return, which can make the projected cash values look similar to those of a participating whole life policy. But in reality, the universal life policy is subject to market volatility and may not achieve those consistent returns year after year. This can lead to a false sense of security and ultimately, disappointing results for the policyholder.
YRT vs. Level
Another source of confusion is the way the cost of insurance is structured within universal life policies. Some policies use a "yearly renewable term" (YRT) approach, where the cost of insurance increases each year as the policyholder ages. This can create the illusion of lower premiums in the early years, only to have those costs skyrocket later on, potentially leading to the policy lapsing or requiring much higher out-of-pocket contributions to keep it in force.
In contrast, participating whole life policies typically use a "level" cost of insurance structure, where the premiums remain consistent throughout the life of the policy. This predictability and stability are crucial for the infinite banking strategy, as it allows for reliable and uninterrupted cash value growth and access.
Summary of the policies
In summary, while universal life policies may have some attractive features, they ultimately fall short when it comes to the specific requirements of the infinite banking strategy. The higher fees, market volatility, limited borrowing capacity, and potential tax implications of universal life make it a poor choice for this wealth-building approach.
On the other hand, participating whole life insurance policies are specifically designed to address the key needs of infinite banking. With their low fees, stable cash value growth, high borrowing capacity, and comprehensive tax advantages, participating whole life policies are the clear winner for those looking to become their own banker and take control of their financial future.
If you're interested in learning more about how participating whole life insurance can benefit your infinite banking strategy, we encourage you to get in touch with our team of experts. We'd be happy to provide a personalized consultation and guide you towards the financial freedom and security you deserve.
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At Control and Compound Financial, we are the guiding hands for real estate investors and business owners throughout Canada, fostering wealth and prosperity. Our expertise lies in understanding the intricacies of real estate investment and business ownership. After all, we are business owners and real estate investors ourselves, immersed in these spheres daily.
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