What Is Universal Life Insurance and Who Should Buy It?

Updated: June 18, 2024

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Universal life insurance, or adjustable life insurance, is a flexible but riskier permanent life insurance option compared to whole life. Its risk stems from the investment component, where cash value can fluctuate with market conditions.

Unlike whole life insurance, which offers fixed benefits and premiums, universal life insurance policies offer adjustable death benefits, flexible premiums and control over cash value investments. This type of insurance is preferable for consumers who use life insurance as an investment plan.

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Key Takeaways

Universal life insurance offers more flexibility in death benefits and premiums than whole life insurance.

Adding a no-lapse guarantee rider can increase premiums, but it also offers policy protection to avoid lapsing if a payment is late or insufficient to cover costs.

A universal life policy requires monitoring to ensure the investment account meets financial goals.

How Universal Life Insurance Works

Universal life insurance is a form of permanent life insurance that offers both flexibility and an opportunity for wealth building. A universal life insurance premium includes two main parts:

  • Cost of Insurance (COI): This is the actual cost that covers the life insurance part of the policy. It includes factors like mortality charges, administrative fees and other related expenses. It's the amount required to keep the universal life insurance death benefit in force.

  • Wealth Building Component: The remaining premium goes into a cash value account based on the universal life insurance investment strategy. This account is often invested in bonds or other relatively stable investment vehicles. The universal life insurance cash value can grow over time, and you may even be able to borrow against it or withdraw funds, subject to certain conditions.

Universal life insurance aims to provide financial security while allowing policyholders more control over certain policy aspects, such as universal life insurance premiums, cash value and investment decisions.

Key Characteristics of a Universal Life Insurance Policy

Universal life insurance stands out from other forms of permanent life insurance in the following ways:

1
Flexible Premiums

Unlike traditional whole life insurance, universal life insurance policies allow you to adjust your premiums. You can pay more or less, depending on your financial situation at any given time.

2
Adjustable Death Benefit

You have the option to increase or decrease universal life insurance death benefits, subject to approval by the insurance company. This gives you the ability to tailor the coverage to your changing needs.

3
Investment Component

Your provider invests a portion of your premium, offering the potential for growth. However, this also introduces an element of risk, as the cash value of universal life insurance policies can fluctuate with market conditions.

4
Transparency

Universal life insurance policies clearly break down the costs and performance of the investment component, allowing you to make informed decisions about your coverage.

Universal life insurance offers a blend of life insurance coverage and investment opportunity. Its flexibility in premiums and death benefits, coupled with the potential for cash value growth, makes it an attractive option for those looking to integrate life insurance into their broader financial strategy.

Cost of Universal Life Insurance

The cost of universal life insurance is often more complex to understand than other types of life insurance, primarily because it provides both life coverage and an investment component.

  • One of the differences between whole life and universal life insurance policies relates to the policy premiums. Unlike whole life insurance, universal life insurance typically offers more flexibility in premiums but can be more expensive due to the investment component. Whole life has fixed premiums and offers guaranteed cash value growth, making it more predictable but less flexible.

  • Term life is generally the most affordable option, providing coverage for a specified period. On the other hand, universal life insurance policies offer lifelong coverage and the potential for cash value growth, usually at a higher cost.

Several factors can influence universal life insurance premiums:

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    Age

    The younger you are when you purchase the policy, the lower the cost.

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    Health

    Your overall health condition can impact the mortality charges within the policy.

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    Death Benefit Amount

    The higher the death benefit, the higher the premium.

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    Investment Performance

    The cash value component's performance can affect the overall cost, as poor investment returns may require higher premiums to maintain the desired death benefit.

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    Policy Features

    Additional features or riders can also influence the cost. For instance, choosing a no-lapse guarantee universal life policy will cost more than a traditional policy, while indexed universal life or variable universal life costs even more.

The ability to invest cash value can sometimes offset the increased cost of universal life insurance if you use the growth to pay premiums or lower your death benefit. For example, if the investments perform well, the accumulated cash value could cover premium payments for a period.

However, suppose the investments in your universal life insurance policy perform poorly. In that case, the cash value of the universal life insurance may not grow as expected, leading to insufficient funds to cover internal costs like mortality charges. As a result, you may need to pay higher premiums to maintain the death benefit or face limitations in the policy's flexibility, such as using the cash value to pay premiums.

When considering whether to buy universal life insurance, evaluate your financial goals, risk tolerance and the factors that impact premiums to determine if it is the right fit for your financial strategy.

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Types of Universal Life Insurance

There are several types of universal life insurance to choose from, including non-guaranteed universal life, guaranteed universal life, indexed universal life and variable universal life. The best coverage for you will vary depending on your financial goals and needs.

1
Traditional or Non-Guaranteed Universal Life

The traditional or non-guaranteed universal life policy is the most straightforward and affordable type of universal life. You get a cash value savings account, flexible premiums and a death benefit option, but there is no guarantee that the policy won’t lapse if you make changes.

Traditional universal life may be a good option if you want to save on your premiums. Still, you’ll have to ensure any changes made won’t cause the policy to lapse because you didn’t pay enough in premiums to keep the policy in force.

2
No-Lapse Guaranteed Universal Life

With a no-lapse guaranteed universal life policy, you get everything included in traditional universal life, with added assurance the policy won’t lapse. You must pay a set minimum premium based on your coverage amount to ensure the policy won’t lapse. If you don’t want to monitor your policy closely but still want the features of a universal life insurance policy, this may be a better fit.

3
Indexed Universal Life

An indexed universal life policy allows you to grow your cash value faster by placing cash in a market index fund. It differs from traditional universal life, which typically has a modest interest rate and slowly accumulates cash value. Indexed universal life policies have a minimum guarantee of 0%–1%, though this varies by company.

We recommend only using this fund if you understand the stock market or are working closely with a trusted financial advisor. The policy could lapse if it doesn’t meet target premiums or its value isn’t enough to pay costs and fees.

4
Variable Universal Life

Like indexed universal life, a variable universal life policy can speed up cash value growth through investments. Variable universal life policies offer more flexibility, with cash value invested into indexes, money market accounts or stocks. Investments can also be mixed, allowing faster growth, though there is typically a cap on the amount you will receive.

Like index universal life, only the savviest investors should consider variable universal life, as the potential for lapsing the policy is the greatest with this universal life product.

Each type of universal life insurance policy offers different benefits and drawbacks. It's wise to align your choice with your long-term financial strategy and understand the characteristics of universal life insurance to ensure it meets your needs.

Term Life vs. Universal Life Insurance

When deciding between term and universal life insurance, understanding the key differences and benefits can help you make the right choice for your financial needs.

Term life insurance is designed to provide coverage for a specific period, such as 10, 20 or 30 years, making it a cost-effective option for temporary coverage needs. It is straightforward, with premiums generally lower than those for permanent policies. The main advantage is its simplicity and lower cost, but it does not accumulate any cash value and expires at the end of the term without paying out unless a claim is made during the term.

On the other hand, universal life insurance coverage is a type of permanent life insurance that remains active for the insured's lifetime as long as premiums are paid. It offers flexible premiums and an adjustable death benefit, attractive features for those seeking long-term security and the potential for financial growth. Universal life insurance's cash value allows policyholders to build savings over time, which they can borrow against or withdraw from under certain conditions.

However, this flexibility comes with higher premiums and more complexity in cost management and understanding investment options.

Choosing between term and universal life insurance depends on your long-term financial goals, flexibility and willingness to manage an investment component. Term life is suited for those with defined coverage needs and a limited budget, while a universal life insurance policy appeals to those planning for long-term financial stability and who may benefit from the advantages of universal life insurance, such as investment opportunities and the ability to adjust policy terms.

Comparing Universal and Whole Life Insurance

Universal life insurance and whole life insurance are both types of permanent life insurance, offering lifelong coverage and a cash value component. However, they differ in flexibility, investment opportunities and cost structure, making them suitable for different financial needs and goals.

Similarities of Universal and Whole Life Insurance

Lifelong Coverage: Both provide coverage for the entirety of the policyholder's life, as long as you pay premiums.

Cash Value Component: Both include a cash value that grows over time and can be borrowed against or withdrawn, subject to certain conditions.

Death Benefit: Both offer a guaranteed death benefit to beneficiaries upon the policyholder's death.

Differences Between Universal and Whole Life Insurance

Flexibility: Universal life offers adjustable premiums and death benefits, allowing for more control and adaptability to changing financial situations. Whole life has fixed premiums and a guaranteed death benefit.

Investment Opportunities: Universal life allows more control over the cash value investment, introducing the potential for higher returns and more risk. Whole life offers a guaranteed, more conservative growth rate.

Cost: Universal life can be more complex in cost structure, with the potential for higher costs due to the investment component. Whole life offers predictable, fixed premiums.

Universal life can suit consumers who want more control over their policy and are comfortable with investment risk. It may be a better fit for those using life insurance as part of a broader investment strategy.

Whole life can be ideal for those seeking stability and predictability in premiums and cash value growth. Those wanting a straightforward, guaranteed growth option without actively managing investments may prefer whole life coverage.

Pros and Cons of Universal Life Insurance

Universal life insurance can prove very profitable over time, but there may be better options for some consumers. Below are some benefits and drawbacks of universal life insurance compared to whole life.

Pros of Universal Life Insurance

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    Flexible Premiums

    Universal life insurance offers long-term coverage with lower and more flexible premiums than whole life insurance. After your first payment, you can pay your premium at any time, in any amount, within certain limitations.

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    Cash Value Can Cover Higher Premiums

    This policy’s cash value works similarly to a Roth IRA; you can put in more money in the early years and let it accumulate. If you pay higher premiums early in your policy, you'll likely build up enough cash value to supplement increased premiums as you age.

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    Control Over Investments

    Depending on your policy details, your insurance company may give you choices for where to invest your policy’s cash value portion. Your options may include an equity index strategy, a one-year term deposit or a general interest account.

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    No Cap on Returns

    Universal life insurance policies use a money market-type investment that pays a market rate of return. If the market is strong, universal life insurance policies may yield much higher returns than fixed-rate whole life insurance policies. However, as with most investments, returns are not guaranteed.

Cons of Universal Life Insurance

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    High Premiums

    You can choose how much to pay based on your current financial situation, but the actual cost will continue to increase as you age. For example, you'll need to pay premiums much higher than your insurance cost in the first years of your policy to build up a cash value to dip into once your insurance cost exceeds your budgeted premium. If you don't, the policy could lapse, especially if it doesn't have a no-lapse guarantee clause.

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    Requires Monitoring of the Policy’s Cash Value

    During the sales process, agents will typically illustrate how your savings could grow, but these estimates are not guaranteed. Keeping track of how your cash value is doing and frequently asking your insurance company for illustrations helps ensure you're getting the best possible outcome. If you don't review these illustrations and make adjustments accordingly, the cost of your policy could skyrocket.

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    Potential Negative Returns

    While universal life is a form of permanent life insurance, the policy will stay in effect only as long as the cash value is enough to cover the cost of insurance — unless you have a no-lapse guarantee. This means the market could work against you, and some policies allow the insurance company to dip into your cash value to recoup losses. Even worse, when your cash value hits $0, your provider can require you to make up the difference in the death benefit premiums or risk the policy expiring with no value.

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    Conservative Interest Rates

    While interest rates depend on the market, they can be relatively conservative, meaning it could take significant time for your policy to accumulate cash value.

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    Detailed Stipulations

    Some plans offer a "no-lapse" guarantee, which means the policy is always in effect. However, to get this guarantee, a company may require you to make payments on time, even going so far as to cancel policies if you pay just one day late.

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Who Should Buy Universal Life Insurance

Universal life insurance may be a good fit, depending on your life insurance needs. This type of life insurance offers flexibility but may require monitoring for lapse concerns — unless you get the no-lapse guarantee. Consider the following buyer profiles to decide if a universal life policy is your best choice.

Individuals Benefitting Most From Term Life Coverage
Buyer Profile
How They Benefit

Young, Newlywed Couples

With time and health on their side, a young couple could get the best rates for universal life insurance for couples. The couple could use a universal life policy to build cash value and, with a no-lapse guarantee, make adjustments to the death benefit or premiums as needed.

For instance, a young couple could make larger payments initially and then increase the death benefit or lower the premiums if they have children. You can use the cash value in many ways, like paying for child care or allowing one parent to stay home while children are young.

Business Owners

Business owners can choose the universal life policy that best suits their goals. The savvy investor could pick an indexed universal policy or variable universal life policy to get fast cash value growth and use the value to pay premiums down the line. They could also use the cash value to finance business expenses or pay for more life insurance.

Sole Financial Providers

Sole providers keep their families financially afloat. A universal life policy's flexibility can allow premium adjustments that help families weather financial hardships while the sole financial provider is still alive.

Individuals With Significant Debts

The more debt someone has, the greater their need for life insurance. The flexibility in universal life policies means that as debts get paid down, policyholders can decrease their death benefits and save on premiums. With an index universal or variable universal policy, you can use the cash value growth to pay off debt faster.

Stay-at-Home Parents

Stay-at-home parents may benefit from life insurance as their role in the home would be costly to replace. As needs change and the family expands, a universal life policy’s flexibility can match those needs. If the stay-at-home parent passes away, the death benefit from this policy can allow the working parent to choose to stay home or return to work. You can also use the policy's cash value for debts or expenses or to pay premiums.

Common Universal Life Insurance Policy Riders

Enhancing a universal life insurance policy with riders can provide additional security and flexibility to meet changing life circumstances. Riders allow you to customize your policy, offering benefits that can be pivotal during unforeseen events. Here are some common riders available for universal life insurance:

  • Accelerated Death Benefit Rider: This rider allows early access to part of the universal life insurance death benefit if the policyholder is diagnosed with a terminal illness, providing financial relief when needed.
  • Waiver of Premium Rider: Should you become disabled and unable to work, this rider waives the universal life insurance premiums, ensuring your coverage continues without financial strain.
  • Guaranteed Insurability Rider: This rider offers the option to purchase additional insurance at certain intervals without further medical examination, securing your ability to increase coverage as life changes.
  • Child Term Rider: This coverage adds temporary life insurance for your children on your policy. This can be converted into a permanent policy for them in the future without the need for a medical exam.
  • Long-Term Care Rider: If the policyholder requires long-term care, this rider allows access to the death benefit to cover these costs, which can help effectively manage the universal life insurance cost during difficult times.

Each rider adds a layer of protection and flexibility, making universal life insurance policies a comprehensive tool for long-term financial planning.

FAQ About Universal Life Insurance

Before choosing a life insurance policy, consider which plan best suits your needs and financial goals. Check out the following common questions people have about universal life insurance to help you make the best choice.

What is universal life insurance?
How does universal life insurance work?
What are the two components of a universal policy?
How much is universal life insurance?
Do universal life insurance premiums increase with age?
Can you cash out a universal life insurance policy?
What happens to the cash value in a universal life policy when the policyholder dies?
What are the disadvantages of universal life insurance?
Is universal life insurance a good investment strategy?
What is a guaranteed universal life insurance?
Who should buy indexed universal life insurance?
How much does indexed universal life insurance cost?
Should you choose term or permanent life insurance?
What is the difference between whole life and universal life insurance?
Which is better: whole life or universal life insurance?
What is the type of insurance in the insurance component of a universal life policy?
What type of premium do both universal life and variable universal life policies have?
Is universal life insurance term or whole?
What is the difference between term and universal life insurance?

About Mandy Sleight

Mandy Sleight headshot

Mandy Sleight is a licensed property, casualty, life and health insurance agent with 20 years of experience in the industry. She has worked for major insurance companies like State Farm and Nationwide, and most recently as the Operations Coordinator for a startup employee benefits company.

Sleight holds a business administration and management degree from the University of Baltimore and a master's in business administration from Southern New Hampshire University. She uses her vast knowledge of insurance and personal finance to create easy-to-understand and engaging content to help readers make smarter choices with their budgets and finances.

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