The 7.5% illustration of term insurance and a side fund produces $60,000 of after tax cash flow beginning at age 65 (this one was reflected in the blog). The term insurance expires at age 65, and the side fund crashes in year 32. In that same year 32, the IUL is illustrated with the same $60,000 in retirement cash flow continuing thereafter, and the IUL policy is illustrated with $847,501 of cash value and $912,058 of death benefit.
The 5.5% illustration of term insurance and a side fund produces $32,000 of after tax cash flow beginning at age 65. The term insurance expires at age 65 and the side fund crashes in year 41. In that same year 41, the IUL is illustrated with the same $32,000 in retirement cash flow continuing thereafter, and the IUL policy is illustrated with $664,709 of cash value and $717,434 of death benefit.
Both whole life and universal life will also produce winning results when compared to term insurance and a side fund. Even if the side fund is a hypothetical equity account with a similar yield assumption, IUL comes out a winner.
I have a question about the analysis included in your blog. For the side fund, I am having difficulty reconciling the numbers in the “Side Fund Values”. Are you assuming some type of non-annual investment into the side fund or monthly deduction of investment management fees?
If I do a simple calculation of investing $19,400 in the first year, earning 6.75% after investment advisory fees, and paying 40% ordinary income tax on all interest earned, I show an end or year value in the first year of $20,186. This is higher than the numbers in the illustration of $20,117. I am surprised that your number is less than mine.
Hey Ken, the error in your math was to deduct the .75% management fee from the 7.50% yield and use a 6.75% yield. This erroneously reduced the amount of taxable interest which increased your account value accordingly.
Here is the calculation that turns $19,400 into $20,117 at the end of year 1:
$19,400 x 7.50% = interest of $1,455
$19,400 + $1,455 = gross year-end balance of $20,855
$20,855 x 0.75% = management fee of $156.41
$20,855 – $156.41 = net year-end balance of $20,698.59 (after deducting management fee)
$1,455 (interest) x 40% (tax bracket) = $582 income tax
Assuming the income tax is taken from the account:
20,698.59 – $582 = $20,116.59 rounded to $20,117
Here’s a little more information on the comment above.
The side fund we used was a taxable account. With an assumed yield of 7.5% you would be hard-pressed not to have some sort of management fee (taxable bond fund, for example). Including the management fee causes the side fund in our illustration to be depleted in year 32. If you don’t include the management fee, the side fund is depleted in year 34. In either case, the I-UL policy continues with substantial illustrated values.
We can compare any cash value life insurance illustration to term insurance and a taxable account, tax exempt account, tax deferred account or equity account (the equity calculations can reflect growth and dividend assumptions, short- and long-term gains, turnover as well as ordinary, qualified dividend, and capital gains taxation).
Using an equity account as the side fund in our Case Study, the side fund is depleted in year 36 assuming the same 0.75% management fee, 6.00% growth, 1.50% dividend, 60% long-term gains, 40% short term gains, 20% capital gains and dividend tax rate, and a 40% turnover rate. I think we are the only illustration system that can comprehensively compare taxable, tax exempt, tax deferred, and equity side funds in this fashion. One might argue as to the assumptions used (suggesting an index fund for lower turnover, for example), but that is fiddling at the margin and should not alter the preference for the I-UL policy.
Anyone who would like to see the illustration for the term comparison using an equity account as the side fund, send us an email and we will get a copy of the illustration right out to you. If you are licensed for the InsMark Illustration System and would like to review the menu prompts we used for this analysis of term and equity vs. I-UL, send us an email and we will get the Case Data file (Workbook) right out to you (be sure to ask for the Workbook for Blog 4).
Thanks go to Brian Manderscheid at LifePro Financial Services in San Diego, CA, for assistance in developing this analysis. Brian is highly skilled at running InsMark software, and he can help you illustrate this “term vs. cash value policy” concept with your choice of carrier. You can reach him at 888-543-3776 or IMCaseDesign@Lifepro.com. Mention my name when you talk to Brian as he promises to take special care of my readers.
Investment management fees can be tax-deductible. They can be listed on Schedule A under the section “Job Expenses and Certain Miscellaneous Deductions.” Line 23 includes investment expenses. These expenses get added into unreimbursed employee expenses, tax preparation fees, safe deposit boxes and other qualifying expenses. All of these miscellaneous deductions are totaled. You only receive a tax deduction for the amount that exceeds 2% of your adjusted gross income (AGI) from line 38 of your Form 1040. If your cumulative expenses are under 2% of AGI, you will not get a deduction as is the case for most clients. Our software contains directions on assuming a tax deduction for such fees. For example, if the management fee is 0.75% and the tax bracket is 40%, the adjusted management fee would be (.0075 x (1- 0.40)) = .0045. You would therefore enter .45% (.0045 x 100) as the management fee if you wish to assume a deduction.
What a great example of how to do a universal life policy and the reasons why, thanks Bob,
Tom
You are welcome and thanks for the kind words Tom,
Bob
Bob, what are the results if the IUL and the side fund are assumed to return 5.5%?
The 7.5% illustration of term insurance and a side fund produces $60,000 of after tax cash flow beginning at age 65 (this one was reflected in the blog). The term insurance expires at age 65, and the side fund crashes in year 32. In that same year 32, the IUL is illustrated with the same $60,000 in retirement cash flow continuing thereafter, and the IUL policy is illustrated with $847,501 of cash value and $912,058 of death benefit.
The 5.5% illustration of term insurance and a side fund produces $32,000 of after tax cash flow beginning at age 65. The term insurance expires at age 65 and the side fund crashes in year 41. In that same year 41, the IUL is illustrated with the same $32,000 in retirement cash flow continuing thereafter, and the IUL policy is illustrated with $664,709 of cash value and $717,434 of death benefit.
Click here for the 7.5% illustration.
Click here for the 5.5% illustration.
Both whole life and universal life will also produce winning results when compared to term insurance and a side fund. Even if the side fund is a hypothetical equity account with a similar yield assumption, IUL comes out a winner.
Thanks for taking the time to comment.
Bob
Hey Bob,
I have a question about the analysis included in your blog. For the side fund, I am having difficulty reconciling the numbers in the “Side Fund Values”. Are you assuming some type of non-annual investment into the side fund or monthly deduction of investment management fees?
If I do a simple calculation of investing $19,400 in the first year, earning 6.75% after investment advisory fees, and paying 40% ordinary income tax on all interest earned, I show an end or year value in the first year of $20,186. This is higher than the numbers in the illustration of $20,117. I am surprised that your number is less than mine.
Can you explain the difference? Thanks, Ken
Hey Ken, the error in your math was to deduct the .75% management fee from the 7.50% yield and use a 6.75% yield. This erroneously reduced the amount of taxable interest which increased your account value accordingly.
Here is the calculation that turns $19,400 into $20,117 at the end of year 1:
$19,400 x 7.50% = interest of $1,455
$19,400 + $1,455 = gross year-end balance of $20,855
$20,855 x 0.75% = management fee of $156.41
$20,855 – $156.41 = net year-end balance of $20,698.59 (after deducting management fee)
$1,455 (interest) x 40% (tax bracket) = $582 income tax
Assuming the income tax is taken from the account:
20,698.59 – $582 = $20,116.59 rounded to $20,117
Bob Ritter
Here’s a little more information on the comment above.
The side fund we used was a taxable account. With an assumed yield of 7.5% you would be hard-pressed not to have some sort of management fee (taxable bond fund, for example). Including the management fee causes the side fund in our illustration to be depleted in year 32. If you don’t include the management fee, the side fund is depleted in year 34. In either case, the I-UL policy continues with substantial illustrated values.
We can compare any cash value life insurance illustration to term insurance and a taxable account, tax exempt account, tax deferred account or equity account (the equity calculations can reflect growth and dividend assumptions, short- and long-term gains, turnover as well as ordinary, qualified dividend, and capital gains taxation).
Using an equity account as the side fund in our Case Study, the side fund is depleted in year 36 assuming the same 0.75% management fee, 6.00% growth, 1.50% dividend, 60% long-term gains, 40% short term gains, 20% capital gains and dividend tax rate, and a 40% turnover rate. I think we are the only illustration system that can comprehensively compare taxable, tax exempt, tax deferred, and equity side funds in this fashion. One might argue as to the assumptions used (suggesting an index fund for lower turnover, for example), but that is fiddling at the margin and should not alter the preference for the I-UL policy.
Anyone who would like to see the illustration for the term comparison using an equity account as the side fund, send us an email and we will get a copy of the illustration right out to you. If you are licensed for the InsMark Illustration System and would like to review the menu prompts we used for this analysis of term and equity vs. I-UL, send us an email and we will get the Case Data file (Workbook) right out to you (be sure to ask for the Workbook for Blog 4).
Thanks go to Brian Manderscheid at LifePro Financial Services in San Diego, CA, for assistance in developing this analysis. Brian is highly skilled at running InsMark software, and he can help you illustrate this “term vs. cash value policy” concept with your choice of carrier. You can reach him at 888-543-3776 or IMCaseDesign@Lifepro.com. Mention my name when you talk to Brian as he promises to take special care of my readers.
Investment management fees can be tax-deductible. They can be listed on Schedule A under the section “Job Expenses and Certain Miscellaneous Deductions.” Line 23 includes investment expenses. These expenses get added into unreimbursed employee expenses, tax preparation fees, safe deposit boxes and other qualifying expenses. All of these miscellaneous deductions are totaled. You only receive a tax deduction for the amount that exceeds 2% of your adjusted gross income (AGI) from line 38 of your Form 1040. If your cumulative expenses are under 2% of AGI, you will not get a deduction as is the case for most clients. Our software contains directions on assuming a tax deduction for such fees. For example, if the management fee is 0.75% and the tax bracket is 40%, the adjusted management fee would be (.0075 x (1- 0.40)) = .0045. You would therefore enter .45% (.0045 x 100) as the management fee if you wish to assume a deduction.
I hope this information is useful to you.
Bob