Section 7702 was added to the Internal Revenue Code in the mid 1980’s. It was the first formal attempt by the IRS to define what is (and isn’t) life insurance and entitled to the tax benefits associated with life insurance (tax deferred cash value buildup, tax free death benefits and non-taxable access to cash values via borrowing). It codified a definition for whole life (an existing life product) and created an totally new set of rules allowing for a new “universal” life product structure. Within a matter of years the first variable universal life product was introduced by Equitable Life Assurance Society. This version of UL made “mutual fund like” investment options (called separate accounts) available to create cash value growth. Variable products today offer an incredible selection of stock based investment separate account options. Cash values are subject to dramatic market swings, as are any form of stock market investment at any given time.

While in concept variable universal life (VUL) is an outstanding product alternative from a growth standpoint, it has proven to be a very difficult product for people who own it. The reason being occasional but typical market melt downs decimate the cash values inside a VUL policy. Making matters worse, ongoing term insurance deductions inside the product “lock in” market losses on that part of policy cash values. Subsequent to a steep market decline most VUL policy owners stop paying premiums and transfer remaining cash values into money market accounts to protect the remaining principal. After which premiums are rarely recommenced and concerns about continued declines find existing cash values languishing in the money market account for years. Adding insult to injury, after an extended market rebound has been missed many VUL owners belatedly then move their funds back into the mutual fund like separate accounts, usually just in time to endure the next market meltdown.

There are other issues with VUL policies that also merit discussion. And, a more recent product design now offers the ability of a policy owner to benefit from market upturns without any risk of losing past gains in subsequent market declines. That product is Index Life and for most who own VUL it represents a far less volatile approach to benefiting from stock market level returns without the stress and pain associated with owning a VUL policy.