Indexed Universal Life

A client wanting cash value linked to a market index but protected by a floor should consider:

1. A.A fixed immediate annuityDelivers a guaranteed payout with no connection to any index, and it distributes money rather than accumulating cash value to credit.
2. B.Decreasing termHolds no cash value at all, so there is nothing to tie to an index and nothing for a floor to protect.
3. C.Annually renewable termPure protection with no accumulation. Its only moving part is a premium that climbs each year, not an interest crediting method.
4. D.Indexed universal lifeCorrect - index-linked with a floor.

Why: Indexed universal life credits interest tied to an index subject to a floor and a cap.

An indexed universal life policy uses a SPREAD (margin) of 3% with a 100% participation rate and a 0% floor. Two consecutive years produce index returns of 11% and then negative 4%. The interest credited in those two years is:

1. A.8% in year one and negative 4% in year twoAn indexed contract with a 0% floor never credits a negative rate, though policy charges still reduce account value.
2. B.8% in year one and negative 7% in year twoThe 0% floor prevents any negative credit. Subtracting the spread from a loss year is the classic error.
3. C.8% in year one and 0% in year twoCorrect. 11% - 3% = 8% credited; the negative year is floored at 0%.
4. D.11% in year one and 0% in year twoThis forgets to subtract the spread. The spread is the insurer's charge for providing the floor.

Why: A spread design subtracts a stated percentage from the index return rather than capping the result. Year one: 11% minus the 3% spread equals 8% credited. Year two: negative 4% minus the spread is still negative, so the 0% floor applies and 0% is credited. The floor protects against loss but never produces a gain. The clue is that the crediting method is a spread, not a cap.

Two indexed universal life policies track the same index, which finished the year up 9%. Policy A uses annual point-to-point crediting with a 10% cap. Policy B uses monthly sum crediting with a 2% cap on each monthly gain and no floor on any monthly loss. The index rose modestly in most months but fell sharply in two of them. The most likely result is:

1. A.Policy A credits 0%, because the 10% cap applies to losses as well as gainsA cap limits how much interest can be credited. The protection against negative returns is the floor, not the cap.
2. B.Both credit 9%, since both track the same index over the same yearSame index, different measuring method. The crediting formula, not the index, determines the interest.
3. C.Policy B credits more, because crediting monthly lets the gains compound twelve timesMonthly sum crediting adds the monthly returns rather than compounding them, and the 2% cap limits every positive month.
4. D.Policy A credits close to the full 9%, while Policy B credits substantially less, quite possibly 0%, because its capped monthly gains cannot offset its uncapped monthly lossesCorrect. The asymmetry between capped gains and uncapped losses is what makes monthly sum crediting lag in a volatile year.

Why: Annual point-to-point looks only at the start and end of the year, so Policy A sees a 9% gain, below its 10% cap, and credits close to the full 9%. Monthly sum crediting adds up twelve monthly returns after capping each gain at 2% but leaving losses uncapped. Two sharp negative months can therefore wipe out many small capped gains, and the annual floor typically stops the result at 0%. The clue is the asymmetry: gains capped, losses not. Review: indexed crediting methods.

An INDEXED universal life policy credits interest tied to an equity index with a 0% floor, a 10% cap, and an 80% participation rate. In a year the index gains 15%, the credited rate is:

1. A.0%Wrong. The floor operates in loss years, not gain years.
2. B.10%Correct. The cap binds after participation is applied.
3. C.12%Wrong-but-tempting. Participation without the cap overstates the credit.
4. D.15%Wrong. Full index crediting ignores both moderating features.

Why: Index gain 15% x 80% participation = 12%, limited by the 10% cap; the floor protects only against index losses. Citation: indexed UL crediting design. Takeaway: participation, then cap; floor for down years only.