Universal life insurance is one of the best solutions for legacy planning and retirement planning. It provides guaranteed returns and liquidity in a volatile time like now.

But universal life insurance is a very complex and highly customizable product too. That is why it is often poorly advised, if not mis-sold.

As a licensed independent adviser,  I help clients compare and analyze universal life insurance solutions. In this article, I will share with you answers to these questions:

• How does universal life insurance work?
• How does it help ensure your assets are well preserved and well managed?
• What are the common pitfalls of buying universal life insurance?
• How does premium financing work and why is it not suitable most of the time?

If you are considering buying a universal life insurance policy or you already have one, you should continue reading…

What is universal life insurance?

If you have some significant sum of savings and want to leave a legacy for your family and children, you are facing a dilemma.

The more you spend your savings, the less you leave behind. There are some traditional options though:

1. Buy term life insurance and invest the rest (BTIR): but you have to handle the stock market volatility and high term insurance costs in the long run.
2. Buy whole life insurance: your money is locked in for decades and you cannot change your sum assured and have no flexibility to utilize your money. At the same time, the return from a whole life policy is often mediocre.

That is why universal life insurance was born (originated from the United States) to kill two birds with one stone.

Universal Life Insurance made its name with high net-worth individuals as it encompasses the flexibility of both whole life and term life insurance. It allows an individual to

• Build up cash value like whole life insurance
• Enjoy the adjustable premiums of term life insurance
• Provides greater flexibility in premium payments
• Earn a higher growth rate of cash values.

In a very simplified form, traditional universal life insurance be can explained using the diagram below.

• Inflow: You can contribute premium and earn a “crediting interest” from the insurer.
• Outflow: Sales commission, cost of insurance, administrative expenses
• Withdrawal: You can make partial withdraw to fund your retirement needs or you can take a policy loan for emergency usage
• Legacy: Your family will receive a lump sum in the event of death or terminal illness.

As you can see, a universal life policy can grow your wealth and preserve your legacy at the same time, for several of the following reasons

• Gifting more than what you have: You can spend the policy value and not worry that you do not leave enough for your children. As they will get the insurance payout eventually.
• Yield enhancement: As the crediting rate offered by most insurers are generally higher than the bank (currently about 4% per year), your money works harder for you.
• Flexibility to withdraw: Subject to the policy’s terms and conditions, you can spend (partial withdrawal) and save more (top-up) during the entire policy term.
• Worry-free investments: Most traditional universal life insurance products invest 100% in bonds. That means you are not subjected to the stock market volatilities. There is no bonus declaration, only interest credits.
• Policy owner protection: Most universal life insurance products are covered under the Policy Owner Protection scheme.
• Pass down the legacy: Because most universal life insurance products allow you to change the life assured, it means you can pass down the universal life policy to your next generation. In other words, your policy can outlive you.

3 Types of Universal Life Insurance products

Due to the popularity of the product, there are some variations of universal life insurance. I will discuss them in detail next time. Simply leave your email below to receive the next update.

I will just summarize them below. The main differences are how the returns are determined.

• Traditional Universal Life Insurance: the underlying investment is 100% in bonds. The insurer decides the asset allocations. Return is based on crediting interest.
• Indexed Universal Life Insurance: returns are pegged to financial indexes such as stock, bond or interest rate index. An index example can be the S&P 500 index or Hang Seng Index
• Variable Universal Life Insurance: you have full control over the investment allocation. The insurer provides the insurance structure and coverage.

Buying universal life insurance with premium financing

People who have accumulated substantial wealth understand the power of leverage. You can borrow money to buy universal life insurance. It is called “premium financing”.

It is a similar arrangement with the mortgage loan on a property. You collateralize your insurance policy to your bank, pay a 30% premium as the down payment and continue to service the remaining 70% premium loan and interest.

Premium financing can be an option if you need a substantial amount of insurance without much cash on hand, or if you can invest your money with a higher return in other instruments.

However, you need to understand that there is no “free insurance”, and most times it is a bad decision.

Underestimate the interest rate risks

With more than a decade of living in a declining interest rate environment, many people have no idea how high the interest rate can be.

(Additional reading: how the interest rate will impact the REITs return in the next decade)

Most premium financings are arranged as a variable interest basis, the bank charges you Libor Rate + 1% interest rate or a “board rate”. In a low-interest-rate environment, it may work, but when the interest rate starts to hike, this will work against you. Just take a look at how fast the Libor rate has climbed in the past 2 years.

With Libor hovering around 2.73% now, you are paying nearly 4% loan interest to the bank. Since a typical universal life insurance in the market only gives you about 4% return (based on crediting rate), it is hardly enough to cover the interest you pay to the bank, after deducting the insurance costs.

The other lesser-known fact is that if the interest rate on the loan increases rapidly or the policy’s earnings fail to meet expectations, the bank may require you to pay off the entire loan.

Premium financing is counter-productive for legacy planning

Although premium financing has similarities with a mortgage loan, it doesn’t always work the same. Unlike a property investment where you can pass down the property to your heir with a new loan, your universal life insurance proceeds have to be used to settle the outstanding loan with the bank first before the rest can be passed down to your family.

As a result, what your family will receive can be substantially less than what you have planned for them.

Most premium financings are arranged on a “recourse” basis. It means the bank will go after your other assets should you not be able to pay off the loan. As the insurance will normally break even after 15 years due to the surrender charge, this could potentially put all your financial planning at risk.

Premium financing is especially detrimental to small business owners who are typically already heavily leveraged. Since the policy is assigned to the bank, there is no credit protection. Your insurance proceeds have to be used to settle your business debts first and there may be nothing left for your heirs.

(Additional reading: 3 types of insurance which are often overlooked by small business owners)

No tax advantage on premium financing

People like to consider buying a universal life insurance plan with premium financing because they associate it with property investment. But I have discussed before that property investors use optimal leverage, not just leverage.

If you borrow money to buy a property for investment, your interest expense can be used for a tax deduction. However, the interest you pay for premium financing loans typically not a tax deductible. And tax paid has great implication if you are a high net worth individual.

What are the universal life insurance products in Singapore?

When it comes to universal life, you should choose a policy from the most reputable insurers. Because you need to entrust your legacy to this company for decades. I won’t recommend universal life insurance from a smaller insurer:

• Earning stability – you are relying on the insurer’s ability to pay you the crediting interest that they promised you. Multi-national insurers with a long history of producing universal life insurance have a higher chance to weather the economic storms.
• Cost of insurance – unknown to many people, the insurance costs are not guaranteed in universal life insurance products. In bad times, some insurers may adopt dodgy practices to raise the cost of insurance unnecessarily. A reputable insurer is unlikely to do so.

Below are the universal life insurance products that are worth a look in Singapore

Traditional Universal life insurance

• AIA Platinum Legacy
• eTiqa ePremier lifetime
• HSBC Jade Legacy / Legacy Ultra
• Manulife Heirloom
• Singlife Universal Life
• Transamerica Universal Life Alpha

Indexed Universal Life Insurance

• Manulife Signature Index Universal Life
• Manulife Signature Index Universal Life Select

Variable Universal Life Insurance

• Swiss Life Alpha
• Swiss Life Alpha Plus
• AXA Private Wealth VUL
• AXA Privilege Wealth VUL

How can you buy universal life insurance?

Due to the complex nature of the product, most insurers prefer you to consult a financial adviser to make sure you understand what you are getting into.

There are three main channels for universal life insurance advice:

• An insurance agent
• A bank
• An independent financial adviser

It is not difficult to see that since an insurance agent only represents one insurer, his or her recommendation could potentially be biased.

A bank typically has a special agreement with one or two insurers only and they tend to push the products from the insurers who offer a higher incentive.

At the same time, they will always “advise” you to buy the insurance with a premium financing so they can earn both the commission and loan interest. That is why universal life is always mis-sold as an investment product and not a legacy product.

In fact, there are “multi-pay” options for some universal life insurance products. But it is unlikely that the banker will tell you because “multi-pay” means lower upfront commission comparing to premium financing.

Therefore, it is a no-brainer to go to a licensed independent financial adviser for universal life insurance product advice.

As a licensed financial adviser, I help my clients with holistic financial planning and propose suitable solutions. If you want to seek independent advice on universal life insurance products, you can request a non-obligatory discovery meeting with me using the form below.