In recent years, fixed-indexed universal life (FIUL) insurance and fixed-index annuities (FIAs) have surged in popularity, riding client desires for safety along with growth potential.
The market for FIUL insurance “reached new heights” in 2012, according to LIMRA, while FIAs were the only annuity category to enjoy positive revenue growth last year.
FIUL is a form of permanent life insurance; FIAs are a type of fixed-deferred annuities. For both products, untaxed inside buildup is tied to one or more market indexes such as the S&P 500.
Although the details vary widely from one offering to another, there usually is some protection against loss. Any index gains can be locked in, perhaps once every 12 months, while any index slides are ignored or minimized. In return for this downside protection, clients holding these vehicles usually accept some type of limit on the annual appreciation.
How might these products be used? David Gaylor, president of Tradewinds Financial Group in Sidney, Ohio, and founding partner of Suwanee, Georgia-based advisor training firm 3-Mentors, says that FIUL insurance could work well for a young couple in which each is getting the full employer match from their 401(k) plans but chooses not to make unmatched contributions.
Such a couple could instead use those dollars to pay FIUL premiums and thus acquire life insurance during their working years. Assuming they are still alive at retirement, they could then take policy loans for supplemental cash flow.
“Their income could be tax-free in the future, with the right loan provision,” Gaylor says. With a traditional 401(k), distributions will be taxable, at unknown future tax rates.
What might be the right loan provision? “I prefer a low, fixed-rate,” Gaylor says. “Some major insurers have a loan rate around 5%, guaranteed for the life of the contract. A variable loan rate makes me nervous, especially at a time when rates are at historic lows and in all probability will increase in the future.”
This hypothetical young couple would not be an ideal fit for an FIA, according to Gaylor. “These annuities are more for clients age 50 or older,” he says. “They can use them for their portfolio’s income allocation. Some FIAs have very generous income rider benefits that offer a guaranteed income for the lifetime of the individual, or for both spouses.”
Gaylor says that using an FIA for income “removes sequence risk.” Clients with a traditional asset allocation may follow some version of the 4% rule, in drawing down their portfolio in retirement, but a steep market drop right after the paychecks cease can jeopardize such a plan.
“By using an FIA for the income portion,” Gaylor asserts, “clients can free up the rest of their portfolio for growth or spending. In my opinion, sequence risk is the biggest risk that retirees will take, and most of them have no idea they're taking it!”
Of course, deferred annuities and permanent life insurance policies can be complex. Yet the growth of index-based products may add to the value a financial planner can provide by doing the necessary evaluation and delivering suitable advice.
