Universal Life Insurance

Universal life insurance comes with more risk and responsibility, but offers premium and death benefit flexibility alongside permanent, lifelong coverage.

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Kristine Lee

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What is universal life insurance?

Universal life insurance is a type of permanent life insurance divided into two components: death protection and cash value.

A defining feature of universal life insurance — and what differentiates it from whole life insurance — is that its cash value is contingent on the performance of the insurance company’s investment portfolio. The accrued cash value can be used to pay toward premiums, but there is more risk involved as returns can fluctuate.

Another distinctive characteristic of universal life insurance is its flexibility: policyowners may increase or decrease the death benefit and premium amounts. However, universal life policies may not be the best fit for everyone — the risk-averse and those not in higher income brackets may find term life insurance is a safer, more affordable option.

In this guide, we’ll cover the ins and outs of universal life insurance to help you figure out if it’s the right choice for you and your loved ones.

Pros and cons of universal life insurance
Pros Cons
  • Doesn’t expire
  • More expensive than term life insurance
  • Flexible premium and death benefit amounts
  • Requires more responsibility and monitoring to avoid becoming underfunded
  • Accrual of market-based interest brings the potential for more cash value growth than whole life insurance
  • Risks of underperforming cash value due to market volatility or fluctuations

  • How universal life insurance works

    As long as premiums are paid, universal life insurance coverage will last your entire lifetime. But unlike whole life insurance, universal policies provide more flexibility by allowing the policyholder to change the death benefit and premium amounts to suit their needs and budgets over the years. This can be important in the event household income shifts over time (as a result of retirement, career changes, etc.) and you want to ensure life insurance protection remains intact and unaffected for your family.

    The cash value component and death benefit make up the primary parts of a universal life insurance policy. 


    How cash value works in universal life insurance

    Every premium payment you contribute first goes toward the policy’s death benefit and administrative costs before the remainder goes into your cash value account. This cash value is not taxed and has a guaranteed minimum annual interest rate but its value will also increase or decrease depending on the market performance of the insurer’s investments.

    Due to the way each premium payment is allocated and the fact that premiums can be adjusted, you can build cash value by paying the maximum amount during the early years of the universal life policy. This cash value can then be used in later years to pay premiums, potentially easing some of the financial burden of maintaining the policy, especially if the policy owner becomes retired and has a less robust income.

    The downside of this strategy, however, may occur if your cash value account becomes depleted with zero funds. In this scenario, the policy can lapse with no surrender value left for the policy. While a universal life insurance policy gives you the freedom of deciding how much to pay in premium, the minimum premium will increase as you get older.

    What is cash value used for?

    Cash value is separate from the death benefit, and can be used in a number of ways:

    • Paying premiums: Cash value can be used to pay for all or a portion of a premium payment, given the funds are available. If cash value runs out, the policy will lapse.
    • Loans: You can take out loans against your life insurance policy and pay it back with interest.
    • Surrender value or withdrawing funds: If the policy is ever surrendered, its cash value will be paid to you. Cash value funds can also be withdrawn, but this comes with additional charges.

    How death benefits work in universal life insurance

    Upon your passing, the death benefit will be paid to your beneficiary and can be used toward any expenses, like funeral costs, childcare, education, debt and more. The amount of death protection is an important decision in life insurance, as your loved ones may depend on this money if you can no longer bring in any income.

    One of the perks of a universal life policy is that your death benefit can be increased or decreased.

    Universal life offers two options for how your death benefit will be paid:

    • Level death benefit (option A): The sum is a fixed amount that doesn’t change over time. Pays only the death benefit and no cash value.
    • Combined death benefit (option B): Combines the death benefit plus the policy’s accrued cash value — both of these will be paid. Typically more expensive.

    Types of universal life policies

    There are three types of universal life insurance policies, each with its own means of building cash value.

    Click on each policy type to learn more about how they work.


    policy types
    Policy Type Cash Value Premiums and Death Benefit Risk and Responsibility Level Cost
    Guaranteed universal life None to minimal Fixed Low Cheaper than whole life
    Indexed universal life Invested into stock market indices decided by insurer Adjustable Low-medium Pricier than average
    Variable universal life Invested into mutual fund sub-accounts decided by policyholder Adjustable Medium-high Priciest due to fees


    Guaranteed universal life

    In a guaranteed universal life insurance policy, the death benefit and premium will remain fixed through the years so it offers less flexibility with these amounts.

    This type of universal policy also has little to no cash value — and though there is a minimum interest rate, it usually isn’t enough to gain much value especially when interest rates are low.

    Guaranteed universal life is often seen as a middle ground between term life insurance and whole life insurance. Unlike term life insurance — in which coverage ends after a set number of years — guaranteed universal life insurance remains intact for your lifetime but isn’t as expensive as whole life. However, it doesn’t come with as many benefits, so this is typically the most affordable type of universal life insurance available.

    guaranteed universal
    Best for:

    Those who want a permanent life insurance policy that is cheaper than whole life insurance and ensures a death benefit.

    Indexed universal life

    If you want a standard universal life insurance policy, an indexed life policy is the closest to it. Its defining feature is that performance of cash value is dependent on stock market indexes like the S&P 500 and Nasdaq-100.

    Your cash account earns interest if the value goes up, but can also drop down if the stock depreciates — and if it does, there is a floor, or guaranteed minimum interest rate (which can be 0%) to prevent putting you in the negative due to market forces.

    An indexed universal life policy can be a good way to accrue cash value quickly, but it comes with caveats and risks.

    Though it comes with more risk than guaranteed universal life, there is more interest-earning potential along with the ability to change premiums and death benefits. 

    Cash value considerations

    • Maximum interest cap: The policy will have a maximum annual rate, or ceiling, in how much interest the account can gain no matter how well the market is doing.
    • Participation rate: Any gains are also subject to a participation rate, which means that only a percentage (determined by the insurance company) of the stock’s growth will be credited to your cash value. For instance, if you have $20,000 in cash value, an 8% gain and a 50% participation rate, your account will accrue $800.
    indexed universal
    Best for:

    Those who want to take advantage of the upsides of stock market investment for their cash value while limiting risk.

    Variable universal life

    A variable universal life policy offers the most potential for cash value growth, and works similarly to indexed universal life insurance in that premiums and death benefits can be adjusted. However, because variable universal life insurance allows more control by letting policyholders invest cash value in a variety of subaccounts similar to mutual funds, it introduces the most risk compared to other types of permanent life insurance policies.

    Though you can choose a fixed interest rate option, this type of life insurance must be monitored regularly as you will be managing subaccounts for your investments. It can get much more complex than other life insurance options.

    While there is potential to earn sizable returns by investing wisely, you will also run the risk of depleting your cash value, owing money or losing coverage. Other downsides include the fact that variable universal life policies tend to have higher fees and most often do not guarantee a death benefit or cash value.

    variable universal
    Best for:

    Those who are familiar with or comfortable managing their investments and willing to take on market risks for potentially higher-than-average returns.

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    Universal life insurance vs. other life insurance policies

    Choosing a life insurance policy can get confusing, and a universal policy may not be the best choice for everyone. A good place to start is by examining your future financial goals and what your family’s economic situation would look like with the loss of your income.

    Let’s go over how universal life insurance compares to other types of policies.

    Policy Type Benefit(s) Premiums Coverage
    Term Death benefit only Increases with each renewal Temporary
    Whole Death benefit and cash value Fixed Permanent
    Universal Death benefit and cash value Adjustable Permanent

    Term vs. universal life insurance

    The primary difference between term and universal life insurance is that a term life policy is not permanent and there is no cash value component. Both types pay death benefit protection to your beneficiaries.

    A term life insurance policy is the most basic and affordable option for most people. However, premiums will increase with each renewal, and as the insured ages, it may become unaffordable and pricier than universal life insurance. A universal policy also provides more flexibility in that premiums and death benefits can be adjusted.

    Whole vs. universal life insurance

    Both of these life insurance types are forms of permanent coverage and include a death benefit and cash value component. In both policies, loans can be borrowed against it and it can be surrendered. The key differences between whole and universal life insurance are how cash value accumulates and flexibility in premium payments.

    With a universal policy, your premiums and death benefit can generally be changed, while in a whole policy, premiums are level for the life of the policy.

    As for cash value in whole life insurance, your account will grow over time at a fixed interest rate and with every premium payment. In a universal life insurance policy, part of every premium goes into an investment account, which grows primarily from any accruing interest that is subject to market fluctuations. Given sufficient cash value funds, this can be used toward premiums.

    Who should buy universal life insurance?

    A universal life insurance policy is worth considering if lifelong, adjustable coverage is important to you. For most people, however, term life insurance provides sufficient death protection at a good price and less risk.

    Recommended for: Not recommended for:
    • People who want permanent yet flexible life insurance coverage
    • Younger people or young families
    • Individuals with high net worth with specific tax needs
    • People who are lower income or on a budget
    • Those looking for an investment avenue for long term savings goals or building a nest egg
    • Those who want to mitigate the financial implications of a downturn in the market


    Is universal life insurance a good investment?

    While one of the main appeals of universal life insurance is its potential for quick growth in cash value, there could be better investment options available.

    It could be more cost-effective to apply for term life insurance — which still guarantees a death benefit — and invest the money saved toward mutual funds, index funds and others, which will generally have higher returns than any life insurance policy.

    Consult an insurance professional or financial advisor to learn more about investment strategies before enrolling in universal life insurance.

    Frequently asked questions

    Policyholders enjoy more flexibility and freedom with universal life insurance: premiums and death benefits can be adjusted, and they may choose how to invest their cash value. However, these liberties can also make a universal life insurance policy more complicated than any other type.

    Both are forms of permanent insurance that offer a death benefit and cash value. But in a whole life policy, premiums remain unchanged and fixed while premiums for a universal policy can be flexible. How cash value accumulates is also different: in whole life insurance, cash value grows at a guaranteed interest rate, while in universal life insurance, it is dependent on market conditions and will fluctuate.

    While it provides permanent coverage, universal life insurance can expire or lapse if the account’s cash value drops to zero and premiums are not paid.

    After the insured passes away, their beneficiaries receive the policy’s death benefit (minus any loans against the policy), but cash value will be absorbed by the insurance company. The policy’s cash value is designed to be used when you are living. For extra premium, you may have the option to ensure cash value is included alongside the policy’s face value to your beneficiaries.

    The policy’s surrender value, i.e., cash value funds, can be cashed out, but you would also be forfeiting your coverage. If you no longer need life insurance, cashing out the policy can be done. If you want to keep coverage in place but still need cash, you can take out a loan against the policy instead.

    The death benefit is not taxed when it’s paid to your beneficiaries. Any growth in cash value and loans against the policy are also not taxed.

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