IUL Insurance Pros and Cons: Is an IUL a Bad Investment?

Short answer: IUL insurance has real pros, including permanent coverage, flexible premiums and some protection when the index falls. It also has real cons: limits on credited interest, charges that rise with age, surrender charges and the risk of a lapse. Critics call an IUL a bad investment mostly because it isn’t one. It is life insurance, and it’s best judged on whether you need lifelong coverage.

If you’re new to how these policies work, start with what IUL insurance is and how it works. This page focuses on the trade-offs.

Is an IUL an investment?

No. FINRA, the regulator that oversees brokerage firms, describes indexed universal life as “generally not considered a security.” It says IUL “follows a set stock index (such as the S&P 500) rather than allowing policyholders to choose their investments.” Your cash value isn’t invested in the index. The index is only used to figure the interest credited, under rules the insurance company sets.

That’s why “is IUL a good investment?” is the wrong first question. A better one is: do I need permanent life insurance, and can I keep paying for it?

What are the pros of IUL insurance?

These are the features people usually point to. How each one works varies by insurance company, product and state.

• Coverage designed to last for life. FINRA says universal life “provides coverage for the life of the insured,” as long as the policy stays funded.
• Flexible premiums. FINRA says universal life “offers flexible premium payments.” You can typically pay more or less within limits, as long as enough goes in to keep the policy in force.
• Cash value with some downside protection. Most IUL policies have a floor, the lowest credit for a period. A floor can keep a falling index from causing a negative credit, though charges still come out.
• A death benefit that is generally income-tax-free to beneficiaries. The IRS says life insurance proceeds received as a beneficiary because the insured died generally “aren’t includable in gross income,” though any interest you receive on them is taxable. That’s true of life insurance in general, not just IUL. Ask a tax advisor about your situation.

Why do critics say IUL is a bad investment?

Most of the “reasons why IUL is a bad investment” lists come down to the same trade-offs:

• Caps and participation rates limit the upside. A cap is the most interest that can be credited for a period. A participation rate is the share of the index gain used. Both are set by the insurance company and, in most policies, can change after you buy within the limits the policy guarantees.
• Charges come out every year, and some rise with age. FINRA says the cost of insurance and other costs “are deducted from the cash or policy account value.” The New York State Department of Financial Services (DFS) says “the mortality charges increase, as you become older,” and that “the insurance company can increase mortality and expense charges.”
• Lapse risk if the policy is underfunded. DFS says “you will need to actively manage the policy to maintain sufficient funding.” The Texas Department of Insurance (TDI) warns: “If the cash value reaches zero, your policy could lapse.”
• Surrender charges in the early years. TDI says “You might have to pay a surrender fee if you withdraw the money early.” These are typically highest in the first years.
• Loans and withdrawals have side effects. TDI says that if you don’t pay back a loan, “it will lower the amount of the death benefit,” and “if you withdraw more money than you paid in premiums, you’ll probably have to pay taxes on it.” If a policy lapses or is surrendered while a loan is outstanding, there may be tax consequences, so a tax advisor should review this before you borrow.
• Illustrations are projections. TDI says the charts agents show “are usually projections and aren’t a promise of a policy’s performance.”
• Complexity. Crediting methods, charges and guarantees are harder to compare than with simpler policies.

IUL pros and cons at a glance

What does an IUL illustration actually show?

An illustration is the set of charts and tables an agent uses to show how a policy might perform. The National Association of Insurance Commissioners (NAIC) says a basic illustration “shows both guaranteed and non-guaranteed elements of the policy,” and that each guaranteed element “has a non-guaranteed counterpart.”

For policies tied to an index, the NAIC says Actuarial Guideline 49-A applies to policies sold “on or after December 14, 2020.” The NAIC says revisions in 2023 were made “to tighten illustration limits” and revisions in 2026 “to enhance consumer-protection disclosures.”

Rules on illustrations limit what can be shown, but they don’t make the non-guaranteed column a promise. The practical step is simple: ask to see how the policy holds up using only the guaranteed column.

Who might an IUL suit, and who might it not?

Every situation is different, and RestAssured doesn’t give tax or investment advice. In general terms:

An IUL may suit people who:

• Want life insurance that is designed to last for life, not for a set term.
• Can comfortably fund premiums for many years, including in years when credits are low.
• Are willing to review the policy regularly and adjust premiums if needed.
• Understand that most values are not guaranteed.

An IUL may not suit people who:

• Mainly need coverage for a set period, such as while raising children or paying off a home. Term life insurance is built for that.
• Are buying it mainly as an investment or a replacement for retirement savings.
• May need the money back in the first years, when surrender charges are typically highest.
• Would struggle to keep paying if the policy needs more funding later.

Questions to ask before you buy an IUL

Bring this checklist to any conversation with a licensed agent:

1. If I pay only the planned premium, how long does the policy last on guaranteed values?
2. What are the current cap, participation rate and floor, what are the guaranteed minimums, and how often can the insurance company change them?
3. What is the full list of charges, and how does the cost of insurance change as I age?
4. What would I get back if I surrendered the policy in each of the early years?
5. How do policy loans work, how do they reduce the death benefit, and what happens if the policy lapses with a loan outstanding? (Ask a tax advisor about the tax side.)
6. Is this replacing a policy I already have? TDI says “Make sure the agent and company are licensed to sell insurance,” and notes it’s illegal for an agent to replace a policy just to earn a new commission.
7. How long is the free-look period? TDI says Texas policies have a free-look period of at least 10 to 20 days. It varies by state.

The bottom line

An IUL isn’t automatically a good or bad choice. It’s a complex form of permanent life insurance whose results depend on funding, charges and crediting rules that can change. If you need lifelong coverage and can fund and monitor it, it may be worth a look. If you need coverage for a set period, simpler options usually cost less.

A licensed agent can walk you through a policy’s guaranteed values, charges and terms for your age and state. Here’s how calling RestAssured works.

RestAssured is a brand of All Phone Leads, Inc. It is not an insurance company or an insurance agency, does not give tax or investment advice, and isn’t affiliated with any government agency. RestAssured connects callers with independently licensed insurance agents.

Frequently asked questions

Why do people say IUL is a bad investment?

Because it isn’t built to be an investment. An IUL has insurance charges and fees, credited interest is limited by caps and participation rates, and the policy can lapse if the cash value can’t cover the charges.

Is IUL a good investment?

IUL is life insurance, not an investment account, so it’s best judged on whether you need permanent coverage. FINRA says indexed universal life is generally not considered a security. RestAssured doesn’t give investment advice, so talk with a licensed professional about your situation.

Who should buy IUL insurance?

IUL may suit people who want permanent coverage, can fund premiums for many years, and are willing to monitor a complex policy. It may not suit people who only need coverage for a set period or who can’t keep funding it.

Is the death benefit from an IUL taxable?

The IRS says life insurance proceeds a beneficiary receives because the insured died generally aren’t included in gross income, but any interest paid on them is taxable. Tax rules depend on your situation, so ask a tax advisor.

Can an IUL lose money?

A floor can keep a falling index from producing a negative credit, but policy charges still come out of the cash value. The Texas Department of Insurance says that if the cash value reaches zero, the policy could lapse.

Sources

• Insurance (life insurance types), FINRA
• Life insurance illustrations, National Association of Insurance Commissioners
• Types of life insurance policies, New York State Department of Financial Services
• Life insurance guide, Texas Department of Insurance
• Life insurance & disability insurance proceeds, IRS

This article is for general education. Policy features, prices and eligibility vary by insurance company and state; your agent will explain the specific terms of any policy before you apply.