Hey everybody, this is going to be a breakdown of the increasing death benefit option versus a level death benefit option on the same exact policy to show why the death benefit option is so important and could be a good versus bad IUL design.
We're going to start with our increasing death benefit policy. We're looking at a 40-year-old female with a standard non-tobacco health rating. We have our increasing death benefit option, and the minimum death benefit for this policy is $236,616. This client is contributing $12,000 a year, or $1,000 a month. Let's get right into it.
We see the age of the client, the year of the policy, and the total premium contributed over the first year. We also see the total charges, the value of the policy (the amount of money that's going to be credited interest), liquid cash value, and the death benefit.
If you remember, our initial death benefit was $236,000, and by the end of the first year, our new death benefit has gone up to $246,000. This increase is due to the total value of the policy. We started with over $10,000 accumulated, all of which was added to the death benefit, giving us a total of $246,900. In this policy, the death benefit increases over time by the total account value, or accumulation value.
Backing up, when we put this $12,000 in, the total charges for the year were $1,980. There's our account value, so we're good. We're going to earn interest on $10,367, and our liquid cash value at the end of year one will have $4,587 inside it, with 90% of that money being liquid and available for borrowing.
If we go five years in, $60,000 has gone in. We have a total of $58,000 earning interest and $53,000 available. Our death benefit is up to $295,000. When we look at year 10, $120,000 has gone in. Now we have $138,000 earning interest and $136,000 accessible. The new death benefit is $375,000. At year 20, we've contributed $240,000. We are now earning interest on $403,000. Our cash value also has $403,000 in it. The new death benefit is $640,000. The funding period is 25 years, so until the person is 65 years old. The total value of the policy and the liquid cash value are equal to $613,000, and the death benefit is $850,000.
What this is saying is that after that $300,000 contribution, if the client were to pass away, their family would receive $850,000. This includes the original death benefit of $236,000 plus the account value of $613,000 plus some interest to total $850,000. Your family receives your total contribution, plus interest, plus the original death benefit. The death benefit increases because of the policy setup.
After $300,000 is contributed, no more money goes into the policy. The $300,000 figure remains. We then have net distributions, taking an annual income of $48,000 every year for the rest of the client's life. By year 35 (when the client is 75 years old), they've taken out a total of $481,000. The policy value is now $1.1 million, with $470,000 still accessible. The death benefit is down to $547,000 due to the outstanding loans. The account value increased because we leverage against it, not devalue it. When you take a loan against the policy, the total value of the policy continues to grow, earning interest on a larger amount each year.
At age 85, $300,000 went in, $962,000 came out, we're earning interest on $1.9 million, the cash value is down to $320,000, and the death benefit is down to $420,000. The death benefit goes down because it pays back the loans. The family still receives $422,000. The death benefit decreases to cover the loans.
At age 100, $1.684 million came out from a $300,000 contribution. The family would receive $307,000 at age 100. This is an impressive policy.
Now, let's discuss the guidelines. The guidelines are crucial, and we have them right here. We need to cover our 7-Pay, our Guideline Level Annual Premium (GLAP), and our Target Premium, and the initial face amount. The Guideline Level Annual Premium tells us the maximum contribution for the life of the policy per year, which is exactly $12,000. We're never going to contribute that extra 14 cents, as it keeps the IRS satisfied and maintains the policy's tax advantages by preventing it from becoming a Modified Endowment.
The 7-Pay is irrelevant in this scenario since it allows for $15,703 for the first seven years. However, this short-term max funding won't let us contribute the full $12,000 over a longer period, producing less desirable long-term results. So, we focus on the GLAP, our maximum contribution. The target premium is the minimum annual contribution required to keep the policy in good standing, which is $2,922. As long as contributions are between $3,000 and $12,000, the policy remains in perfect standing.
Now, let's discuss the Level Death Benefit Policy, our so-called bad policy. For a 40-year-old female with a standard non-tobacco health rating, we have a Level Death Benefit. The minimum death benefit for this policy design is $687,000, triple that of the increasing death benefit policy. The same amount of money is going into the policy. The GLAP is still $12,000, but the target premium is $12,918, suggesting additional funding capacity.
The 7-Pay for this policy is $45,623, allowing significant contributions in the first seven years, which is not ideal for this client's long-term monthly payment plan. This setup offers no flexibility; dropping premiums below $12,000 risks policy lapse.
Agents often focus on the target premium because it influences their commission. In this case, running a level death benefit yields a $12,000 commission, whereas an increasing death benefit only provides $2,500 in commission. While agents might prefer the higher commission, I prioritize client satisfaction and won't set it up this way.
With $12,000 going in, everything else remains the same. We see total charges, policy value, and cash value. Initially, there's no money in the cash value. The death benefit is $687,433, which remains level. However, there's no cash value in the first two years, and the account value is $2,000 less. Initially, it was $10,367; now, it's $8,136—over $2,000 less. Despite the higher death benefit, the long-term value is lower.
At year five, $60,000 has gone in, with $46,000 earning interest and $22,000 available. We still have $687,000 in death benefit coverage. Ten years in, the account value is $108,000, with $97,000 accessible. At year 20, $240,000 has been contributed, and the policy is now worth $326,000, but it's not as effective as it could be. Funding ends at age 65 with a cash value of $506,000. In contrast, the increasing death benefit policy had $613,000 in cash value and $850,000 in death benefit.
I'd prefer over $100,000 more in cash value and nearly $200,000 more in death benefit. The combined value is over $250,000 less due to the death benefit option.
When income starts to come out, the increasing death benefit policy provided $48,000 annually, whereas now we get $39,000, which is still decent but with less death benefit. At age 85, the total contribution remains $300,000, with $781,000 taken out, $1.6 million earning interest, and $270,000 in cash value, with $350,000 in death benefit. In comparison, the increasing policy had $422,000 in death benefit, $322,000 in cash value, $1.9 million earning interest, and $962,000 taken out. The level death benefit policy shows significant value loss.
At year 100, $300,000 went in, $1.3 million came out, leaving $248,000. The increasing death benefit policy had $1.6 million come out, $4.8 million earning interest, and $307,000 left. The level death benefit policy earns less interest and has a lower death benefit, showing the importance of correct policy design. Starting with a lower death benefit maximizes the policy's value, offering more long-term benefits.
At Power Through Financial, we believe in education and ensuring you understand why we do things the way we do. I hope this is helpful, and I'll talk to you soon.
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