I really can’t remember when I first encountered Variable Universal Life Insurance (VUL). What I remember is the negative impressions and reservations that I have for this hybrid investment instrument, probably brought by the influence of popular western financial gurus like Suze Orman, Dave Ramsey, and the like.
What’s a VUL, anyway
I referred to it as a hybrid investment instrument since it’s a combination of two very important personal finance tools – a life insurance (protection) and a mutual fund (investment).
Basically, when one subscribe to a VUL policy, he is getting a life insurance coverage and an investment in one single instrument, addressing two crucial financial needs – protection and capital growth. A 2-in-1 deal, so to speak.
They say VUL’s are expensive
This has been the reason for my reservations about VULs, that it is expensive comparing to if you just implement a Buy Term, Invest the Difference (BTID) strategy.
Ok, before this gets too confusing, let me explain briefly what a BTID strategy is.
Buy Term, Invest the Difference (BTID) Strategy
As I have mentioned early in this article, we all have two crucial financial needs that is needed to be addressed – protection (insurance) and capital growth (investment).
For someone implementing the BTID strategy, what they do is purchase those two financial needs separately. For a given budget, say they have a 100k budget for any given year, a portion of that budget is used to buy a term insurance (the most basic and inexpensive insurance product), and invest the remaining amount, whether on the stock market or on managed funds like mutual funds and UITFs.
On a special note, VUL products are created to implement the BTID strategy. It provides convenience of having one product instead of having two separate financial instruments.
Technically, a VUL is an application of BTID. Logically speaking, they are one and the same thing.
Alright then, if you are saying that they are one and the same thing, then why are VULs more expensive over BTID (or as they say)
Let us give light to this by looking straight at the numbers.
To view this as objectively and as comprehensive as possible, I have analysed the numbers into two different approaches, using the same assumptions. It is very crucial to compare these apples to apples.
I used myself as the case study, and here are my info and requirements:
I’m a 26 year old lad looking for a P2,000,000.00 insurance coverage with an Accidental Benefit (ADB) and Total Disability Benefit (TDB) riders. My target insurance coverage is until age 60. My budget is P54,260.00 a year.
With this approach, my analysis is based on the total insurance costs (including admin expenses, mortality premiums, etc..) that I will be spending for both VUL and Term insurance in a span of 34 years (the number of years remaining before I turn 60). You can find the complete data for this analysis here, including actual proposals.
Results and Findings:
Looking at the table of insurance costs, it is evident that Term insurance is more inexpensive compared to VUL. Well actually, that fact was in favour of term insurance only until the end of year 4. Beyond that, on a yearly basis, term insurance tends to cost more compared to the total insurance charges of a VUL.
At the end of year 13, the total insurance cost spent on Term insurance is almost 3k more expensive than a VUL, totalling P161,220.00 and P158,926.00, respectively. The gap widens as the premium paying years advance.
Once I turn 60, the total insurance charges that I have spent on VUL is P330,038.51 while the total insurance charges that I have spent on term insurance is P574,030.00.
On that note, term insurance is more expensive by P243,991.49 compared to VUL – an outstanding 74% difference.
Income Approach (investment is made in 34 years or until I reach age 60)
I decide to present the analysis into two income approach scenario. The analysis on the first approach is based on the value of the fund on target age, age 60 in my case, wherein investments where made until age 60.
To make the comparison consistent and relevant, it is assumed that the average annual rate of return from investment is 10%.
The figures used in this analysis is based on my own fund value computation (please refer to Table 3 in the illustration page).
Results and Findings:
Very similar to the expense approach, the advantage of the BTID strategy is at the early years of its implementation. Since both BTID started with a higher allocation for investment at the first four years of the program, it created a great headstart for the said strategy.
It didn’t last long though since the fund value of VUL is slowly catching up.
At the end, the fund value VUL at age 60 is P11,080,511.59 while the fund value of BTID is P11,023,269.98. Putting it this way, the 57k gap seemed so little, but still in favour of VUL.
Put variability into play though, since the advantage of BTID is just in the early 4 years of the program, the gap could widen significantly over the course of the remain 30 years of this 34-year retirement program on the favour of VUL.
Income Approach (investment is made in 10 years only)
For this second version of the income approach, I decided to base the comparison on the Sun Life VUL proposal that I have attached in the illustrations page. For the BTID strategy, for the P54,260 budget a year in 10 years, a portion of that is used to pay for the term insurance, the remainder was invested in mutual funds (with effective Return on Investment of 10% similar to VUL’s investment fund).
From year 11 to year 34 (until I reach age 60), I will be withdrawing funds from my investments so I can pay the premium payments in my term insurance for the BTID strategy, same mechanics VUL used, only that I will do it on my own.
Results and Findings:
Based on Sun Life VUL proposal, the fund value of my investment at age 60 amounts to P6,007,563.00. For BTID, the fund value at the same age is P5,741,218.53. That’s a difference of P266,344.47, still in favour of VUL.
BTID is more flexible than VUL, as they say
Referring to flexibility may mean many things. If it pertains to the flexibility to withdraw the money from the program, using VUL over implementing BTID has no difference. At any time, you can withdraw money from your current fund values on both programs.
If the said flexibility pertains to the ability to select freely on what investment instrument you wish to invest the rest of your money (the difference between your budget and the purchased term insurance), BTID wins hands down – well, an expensive freedom costing P234,991.49 worth of a more expensive insurance cost.
Summary and Recommendations
Whether what approach of analysis was used, expense or income approach, it was clear that VUL has all of the advantage over implementing BTID strategy, assuming all other conditions are the same.
However, I’m not saying that VULs will always outpace BTID strategy in every scenario. What defines the success of a VUL program is how far are you from the goal you are working on. Again, this emphasize the need for goal setting in making crucial investment decisions. There are instances that BTID will prove to be more successful over VUL.
All of these things require much thought and understanding. You’ve worked hard to earn that money. It’s just right to spend enough time to understand where you’ll be putting it so that it can successfully work for you.
After all, investing will always be a personal preference.
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