Variable Universal Life (VUL): Suitable?
These contracts are structured similarly to Single Premium Variable Life Insurance (SPVLs) and share the same tax advantages but are paid for in a number of annual contributions.
Provided premium does not exceed certain levels (determined by the IRS and monitored by the insurance carrier), the policyholder can take income tax free policy loans during their lifetime.
VULs are most often purchased to provide a death benefit to heirs. In many cases, the policy may be owned by a Crummy Trust to avoid inclusion in the decedent's estate.
VULs can also be purchased by corporations to fund a deferred compensation plan or by individuals for tax advantaged wealth accumulation.
Because a significant portion of each annual payment goes to fund life insurance costs, the client should have an economic need for the life insurance coverage in addition to an investment need.
Suitability standards are similar to those of SPVLs.
Special attention should be paid to adequately funding the contract. Failure to maintain sufficient cash value to cover annual insurance costs will cause the VUL contract to lapse.
(SPVLs are theoretically subject to the same risk, but because they are funded upfront, there is generally less lapse risk.) The insurance illustrations typically provided with each VUL proposal disclose performance under a 0% return as well as various hypothetical returns.
Withdrawals and Loans from Variable Universal Life Contracts (MEC-Modified Endowment Contracts):
Withdrawals and loans from life insurance policies may reduce the Death Benefit and Cash Surrender Value. Withdrawals and loans from contracts that are classified as Modified Endowment Contracts may be subject to tax at the time a withdrawal or loan is made. A federal tax penalty may also apply if the withdrawal or loan is taken prior to age 59½.
A lapse or surrender of the policy while loans are outstanding may cause the recognition of a taxable income. Depending upon the performance of the underlying investment accounts, the cash value available for loans and withdrawals may be worth more or less that the original amount invested in the policy. Excessive loans and withdrawals may cause the policy to lapse.