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What Is It?

Permanent Cash Value Policy Combining Features of Whole Life and Universal Life Insurance

Adjustable life insurance is a type of permanent, cash value life insurance that combines features of both whole life and universal life insurance policies. This type of policy provides guarantees of death benefit and cash value, just as you would get with a whole life policy. What makes the adjustable life policy special is that, at specific intervals, the policy allows you to request upward or downward adjustments of the premiums, death benefit (face amount), or cash value, much like in a universal life policy. Increases in the death benefit above a certain amount usually require medical proof of insurability.

When Can It Be Used?

You Want a Life Insurance Policy That Can Meet Changing Needs

Adjustable life insurance allows you to request changes to your premium, death benefit, and/or cash value, providing you with insurance coverage that can keep pace with your changing needs. You can structure your policy to resemble low-premium term life or high-premium limited pay whole life, and you can make changes later without having to buy additional policies. Policy changes are often requested at the time of family events, such as a child entering private school or college, the primary breadwinner's loss of employment, or the start-up or failure of a business. The most common adjustment requested is a reduction of premium during a family's period of decreased income or increased expenses.

You Want Some Guarantees With Your Flexibility

Adjustable life (AL) combines guarantees found in ordinary level premium whole life (WL) policies with some of the flexibility found in universal life (UL) policies, as shown in the following table:

Feature

UL

WL

AL

Guaranteed death benefit

Y

Y

Y

Guaranteed minimum interest rate on cash values

Y

Y

Y

Guaranteed maximum mortality charges

Y

Y

Y

Changes to premium amount allowed

Y

N

Y

Changes to premium payment period allowed

Y

N

Y

Changes to death benefit amount allowed

Y

N

Y

Bundled policy elements, indirect recognition

N

Y

Y

Policy may receive dividends

N

Y

Y

Caution: Any guarantees associated with payment of death benefits, income options, or rates of return are based on the claims-paying ability of the insurer.

Strengths

Provides Benefits Common to All Cash Value Life Insurance

Like all other permanent, cash value policies, an adjustable life policy contains the following features:

  • Cash value grows tax deferred
  • Cash value can be borrowed against (policy loans and withdrawals may reduce the policy's cash value and death benefit)

You Can Change Your Premium Amount and Payment Schedule

With an adjustable life policy, you are generally allowed (within limits) to request an increase or decrease of your premium amount or to lengthen or shorten the protection period (for instance, from term to whole life) and/or the premium payment period (for instance, from whole life to limited pay). When you make a change to your policy, it remains fixed until another change (if any) is requested. A formal adjustment agreement between you and the insurance company will probably be required.

Caution: Premiums generally can't be set to zero without causing a policy lapse (unless your policy is in paid-up status).

Caution: An increase in your premium payment during the first seven policy years could cause the policy to be classified as a modified endowment contract (MEC) for income tax purposes. Distributions and policy loans from MECs are subject to unfavorable income tax treatment, and may also be subject to penalties if taken before age 59½.

You Can Change Your Death Benefit

With adjustable life, you are allowed to change the death benefit (face amount) of your policy. Decreases to the death benefit may be permitted at any time, while increases may require evidence of insurability.

Caution: Decreases to your death benefit in the first seven policy years may cause your policy to be classified as an MEC. Distributions and policy loans from MECs are subject to unfavorable income tax treatment, and may also be subject to penalties if taken before age 59½.

Tradeoffs

Adjustments May Be Allowed Only At Certain Intervals and Require Advance Notice

Although you are permitted to make changes to your adjustable life policy, generally the changes are allowed only at certain intervals and must be requested in advance. Once you make a change to your policy, it remains in effect until you make another formal change request.

Adjustment of Premium Payment or Death Benefit Could Lead to Adverse Tax Consequences

The ability to increase the premium payments or reduce the death benefit has the potential to alter the policy so that it inadvertently becomes an MEC. Once classified as an MEC, the policy remains an MEC forever, and cash withdrawals, policy loans, and other transactions considered distributions under the contract could be subject to unfavorable income tax treatment and possibly penalties if taken before age 59½.

Tip: Consult your financial or tax advisor when considering changes to your policy in order to avoid the policy being classified an MEC.

May Be More Expensive Than Other Products When Needs Are Known and Unlikely To Change

When your insurance needs are not likely to change and can be foreseen as relatively stable, there are other policy types that may prove to be more cost-effective. While the features of adjustable life can be very valuable when needed, there probably isn't much value to paying for them when you don't need them.

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How to Do It

Determine Your Life Insurance Need and Overall Financial Goals

Before you buy life insurance, you need to know how much insurance you need. Insurance need is based on numerous factors, including your current age and income, marital status, number of incomes in the household, number of dependents, long-term financial goals, level of outstanding debt, and existing insurance and other assets. Your overall financial, estate, and tax-planning goals and your planning horizon should be considered as part of your insurance need evaluation.

Tip: Consult with your financial advisor concerning your need for insurance. Some of the calculations can be complicated.

Complete the Insurance Application and Name Your Beneficiary

Before the insurance company can issue your policy, it must receive a completed application form. The application includes general health questions, and the process may include a physical examination, which is usually paid for by the insurance company. A critical part of the application is the beneficiary designation, or the naming of the person or persons to receive the policy proceeds when you die. Unless you make an irrevocable beneficiary designation, you can change the beneficiary designation by adding or removing a beneficiary or changing the percentages of the proceeds distribution.

Buy the Policy And Pay Your Premium

It is all well and good to know how much insurance and what type of policy is appropriate for your particular situation. But if you don't actually buy the policy, you haven't accomplished your goal! Not only that, but insurance becomes more expensive with age, so you won't be doing your wallet any favors by delaying. An additional risk of delaying is that your health could change adversely.

In other words, just because you are healthy and insurable today doesn't mean you will be that way later. Deterioration in your health can mean higher premiums or an insurer considering you to be uninsurable.

Review Your Insurance Need Periodically and Change Your Policy When Needed

The amount of life insurance you need may change over time and with the occurrence of lifetime events. As a result, you should periodically review your life insurance coverage. As a rule, you should review your coverage every three years. Major lifetime events (such as the purchase of a home, birth or adoption of a child, and change in marital status) are also appropriate times to review your coverage. Reviewing your coverage will alert you to changes you may want or need in your policy (such as an increase in the death benefit) and help you prevent the mistake you can't fix after you die: not having enough life insurance.

Tax Considerations

Income Tax

Premium Payments Not Deductible

Life insurance premium payments are generally not tax-deductible expenses.

Policy Loan Proceeds Generally Not Taxable

When you take out a loan against your life insurance policy (except a policy classified as an MEC), the amount you receive is not considered taxable income. This rule applies even when the loan is larger than the amount of premiums you have paid in.

Example(s): You own a life insurance policy (non-MEC) with a cash value of $20,000. Your basis in the policy is $14,000. You decide to take a policy loan to pay your daughter's college tuition. Under the terms of your policy, you are allowed to take a loan for an amount up to 90 percent of the policy cash value--in this case, $18,000 ($20,000 x.90). You are not currently subject to tax on the amount of the loan, even though the loan is larger than your basis.

Caution: If you cancel your policy while there is a loan balance outstanding, you could be subject to income tax on a portion of the loan (plus any accrued but unpaid interest).

Policy Loan Interest Not Deductible

Interest you pay on a policy loan is not a tax-deductible expense when the loan is for purposes other than business or investments.

Policy Cancellation May Be Taxable

If you cancel (surrender) your policy for cash, the gain on the policy is subject to federal income tax. The gain on a canceled policy is the difference between the net cash value and loan forgiveness amounts and your policy basis.

Caution: You may be subject to surrender charges. Check your policy.

Caution: Policy fees and expenses are usually charged against the policy in the first few years. As a result, policy surrenders during the first few years of the policy may provide little cash value.

Caution: If you surrender your policy while there is a loan balance outstanding, you could be subject to income tax on the amount of the loan (plus any accrued but unpaid interest).

Policy Lapse May Be Taxable

If you allow your policy to lapse, you could be subject to income tax even if you don't receive any cash from the policy. A policy lapse can occur when you stop paying premiums and don't have cash values available that can be used to pay the premiums. If you have an outstanding policy loan, it is possible you could be subject to tax on the amount of the loan plus any accrued but unpaid interest.

Death Benefits Generally Not Subject to Federal Income Tax

Policy death benefits are generally not subject to federal income tax. One notable exception is when the policy has been sold or otherwise transferred for valuable consideration by one policyowner to another, subjecting it to the transfer-for-value rule.

Gift and Estate Tax

Policy Proceeds Not Considered Gift to Beneficiary

When the proceeds of your life insurance policy are paid to a beneficiary, they are not treated as a gift for gift tax purposes. However, the insurance proceeds are generally included in your gross estate and will be subject to estate tax if they are.

Policy Premium Payments Generally Not Subject To Gift Tax

When you are the owner of a policy on your own life, with another party as the beneficiary, premium payments made by you are not considered a gift to the beneficiary for gift tax purposes. If, however, someone else pays the premiums on a policy you own, the premium payments are considered a gift to you and may be subject to gift tax. Policy premiums generally qualify for the annual gift tax exclusion.

Policy Proceeds Included In Estate Value in Most Cases

The proceeds of a life insurance policy are included in the value of your estate if you held any incidents of ownership at any time during the three years before your death or if the proceeds are payable to you or your estate or executor. Incidents of ownership include (but are not limited to) the right to change the beneficiary, take out policy loans, or surrender the policy for cash.

Policy Proceeds Often Exempt From State Inheritance Tax

In many states, life insurance proceeds are exempt from state inheritance taxes. Consult the laws of your state regarding tax treatment of life insurance proceeds.

Questions & Answers

How Is Adjustable Life Different From Universal Life?

Both adjustable life and universal life are permanent, cash value life insurance policies that provide you with the flexibility to change the premiums, face amount, and protection period. Adjustable life was available before universal life was developed.

While the two policy types share similarities, there are fundamental differences in how the policy elements are recognized and how interest is credited to the cash value accounts. With adjustable life, the policy elements are bundled; in other words, the mortality and expense charges are not explicitly shown. Universal life contains unbundled policy elements, providing full disclosure of the individual charges for protection, expenses, and cash value. Another major difference between the two types of policy is that you must formally request policy changes in advance with adjustable life. Changes to universal life policies can happen without prior notice to the insurance company, but the privilege is reflected in the policy premiums.

 

 

This material was prepared by Broadridge Investor Communication Solutions, Inc., and does not necessarily represent the views of  The Retirement Group or FSC Financial Corp. This information should not be construed as investment advice. Neither the named Representatives nor Broker/Dealer gives tax or legal advice. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. The publisher is not engaged in rendering legal, accounting or other professional services. If other expert assistance is needed, the reader is advised to engage the services of a competent professional. Please consult your Financial Advisor for further information or call 800-900-5867.

 

The Retirement Group is not affiliated with nor endorsed by fidelity.com, netbenefits.fidelity.com, hewitt.com, resources.hewitt.com, access.att.com, ING Retirement, AT&T, Qwest, Chevron, Hughes, Northrop Grumman, Raytheon, ExxonMobil, Glaxosmithkline, Merck, Pfizer, Verizon, Bank of America, Alcatel-Lucent or by your employer. We are an independent financial advisory group that focuses on transition planning and lump sum distribution. Please call our office at 800-900-5867 if you have additional questions or need help in the retirement planning process.

 

The Retirement Group is a Registered Investment Advisor not affiliated with FSC Securities and may be reached at www.theretirementgroup.com.

 

 

This material was prepared by Broadridge Investor Communication Solutions, Inc., and does not necessarily represent the views of  The Retirement Group or FSC Financial Corp. This information should not be construed as investment advice. Neither the named Representatives nor Broker/Dealer gives tax or legal advice. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. The publisher is not engaged in rendering legal, accounting or other professional services. If other expert assistance is needed, the reader is advised to engage the services of a competent professional. Please consult your Financial Advisor for further information or call 800-900-5867.

 

The Retirement Group is not affiliated with nor endorsed by fidelity.com, netbenefits.fidelity.com, hewitt.com, resources.hewitt.com, access.att.com, ING Retirement, AT&T, Qwest, Chevron, Hughes, Northrop Grumman, Raytheon, ExxonMobil, Glaxosmithkline, Merck, Pfizer, Verizon, Bank of America, Alcatel-Lucent or by your employer. We are an independent financial advisory group that focuses on transition planning and lump sum distribution. Please call our office at 800-900-5867 if you have additional questions or need help in the retirement planning process.

 

The Retirement Group is a Registered Investment Advisor not affiliated with FSC Securities and may be reached at www.theretirementgroup.com.

 

TRG Retirement Guide

Tags: Financial Planning, Lump Sum, Pension, Retirement Planning