Universal Life Insurance Death Benefit Options

One of the options when purchasing universal life insurance is the type of death benefit. There are a few different death benefit options, but the most common are level (sometimes called Option 1 or Option A) and increasing (sometimes called Option 2 or Option B).

We’ll cover each of them and also go over some other related topics.

Level Death Benefit

With a level benefit, the death benefit does not change (at least until corridor factors come into play). The net amount at risk, the difference between the death benefit and cash value, decreases over time.

Because the net amount at risk decreases from year to year, this offsets the increased cost per unit of insurance.

The graph below shows the relationship between cash value and death benefit:

The net amount at risk is the difference between the death benefit line (purple) and the cash value line (blue). You can see that it decreases over time. When the cash value reaches the corridor, you can see that the death benefit and cash value become very close (and eventually are equal).

Increasing Death Benefit

With an increasing death benefit, the death benefit goes up each year. The death benefit is equal to a “specified amount” plus your cash value. The net amount at risk (specified amount) does not change over time.

Insurance costs will go up over time since the net amount at risk remains constant. But, increasing death benefit policies allow a lot of premium to be put in, so a large cash value can be built to offset this cost.

The graph below shows the relationship between cash value and death benefit:

The net amount at risk is the difference between the death benefit line (purple) and the cash value line (blue). You can see that it remains constant over time.

Which One Should You Pick

There is no answer to which death benefit option is best in general, but here are a few guidelines:

  • If you are young and want to build cash value as quickly as possible, a policy with an increasing death benefit will probably work best. Even a small death benefit (which is how you would structure it) would allow a large premium. If you want/need more death benefit protection, it would be more efficient to purchase a term policy separately. By the time the term policy expires the death benefit on the permanent policy will have increased significantly.
  • If you are a bit older, often a level death benefit is better. This is because the net amount risk decreases each year, and as you get older the insurance costs are higher. But there isn’t a hard cut-off for what “older” means, so the only real way to figure this out is to run illustrations.
  • For guaranteed universal life insurance policies, a level death benefit probably will always make the most sense.
  • Level death benefit policies typically have larger initial death benefits, so if accelerated benefits (such as chronic illness) are important, this might be the better way to go. Often this coincides with older consumers, who probably are already better suited to a level death benefit anyway.
  • For the same initial death benefit, a level death benefit policy and increasing death benefit policy will have the same guideline single premium and 7-pay premium (see here for a discussion on that). But with an increasing death benefit the guideline level premium will be significantly higher, allowing a lot more premium to be paid in.

Changing the Amount of the Death Benefit

Universal life insurance policies allow you to change the amount of the death benefit. If you want to increase it, you will need to go through underwriting. If you want to decrease it, you might incur a charge if you do it too soon.

Decreasing the death benefit on a guaranteed universal life policy in conjunction with a pension is something I’ve discussed before.

Changing the Death Benefit Option

You can also change the death benefit option (i.e. from increasing to level or vice versa).

The most common time that this option would be used is to begin with an increasing death benefit and then switch to a level death benefit after you stop paying premiums. This allows for maximum cash value accumulation.

The graph below shows the relationship between cash value and death benefit for this strategy:

The net amount at risk is the difference between the death benefit line (purple) and the cash value line (blue). During the premium paying period, it remains constant. Once premiums cease being paid, the death benefit is switched to the level option.

From that point, the net amount at risk decreases over time. Eventually the death benefit starts to rise again as the cash value bumps into the corridor.

Conclusion

Neither a level death benefit or increasing death benefit is inherently better than the other, though there are general situations where one tends to be more suitable than the other.

Either one can be good, assuming it is structured correctly and fits the situation. Universal life insurance policies are very often not set up in an ideal manner (we see this a lot).

Before you buy a universal life insurance policy, or if you already have one, it’s a good idea to get a second opinion.

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