What is indexed universal life insurance?

Last updated: January 2022

Indexed universal life insurance is a type of permanent life insurance, which means it has a cash value component in addition to a death benefit. The money in your cash value account can earn interest based on a stock market index chosen by your insurer, such as the S&P 500 or the Nasdaq Composite. Funds don't earn a fixed rate of interest but typically come with an interest rate guarantee.

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Key features of indexed universal life insurance

No fixed interest rate: When you purchase indexed universal life insurance, funds in your cash value indexed account don't earn a fixed rate of interest, the National Association of Insurance Commissioners (NAIC) explains. Instead, your rate of interest is based on a market index chosen by your insurer. (This differs from a universal life insurance policy, which the Insurance Information Institute (III) says earns interest similar to that of a money market account.) According to the Securities and Exchange Commission, an index tracks the performance of the specific basket of investments, such as stocks or bonds. Your insurer selects the index, and then calculates an interest rate based on the performance of the index, says the NAIC. The life insurance company then credits that interest to your cash value account.

Interest rate guarantee: The NAIC also says that policies typically include an interest rate guarantee, so a minimum interest rate is paid even if the index produces lower returns. However, interest rates are usually also subject to a "cap" or upper limit.

There are several other features of indexed universal life insurance, according to the American Institute of Certified Public Accountants :

Adjustable premium payments (within limits):¹ Your policy will likely specify a planned premium for you. However, if you have enough money in your cash value account, you may be able to use those funds to help pay your premiums.

Adjustable death benefit:¹ Death benefits are typically flexible with an indexed universal life policy, and you can usually lower them at any time. However, increasing the death benefit may require you to pass a medical examination.

Access to cash value:² In case of emergency, you may be able to borrow from your indexed universal life insurance policy, although you will likely be charged interest for doing so. You may also be able to make withdrawals from your cash value account. However, doing so may permanently reduce your death benefit. If you don't maintain a large enough balance in your cash value account, withdrawals may also risk causing your policy to lapse.

Who might choose indexed universal life insurance?

The III suggests that permanent life insurance may be a good option if you want lifelong life insurance and want to build your cash account over the long term.

The NAIC points to the fact that indexed universal life insurance offers both potential for growth based on the market, as well as protection from losing value if the market falls. If these features are appealing, you might consider indexed universal life insurance. Your insurance provider can help you make an informed decision about whether indexed universal life insurance is right for you.