IUL Pros and Cons: A Balanced Look at Indexed Universal Life

Indexed universal life (IUL) insurance has real strengths: lifelong coverage, flexible premiums, a floor that stops index losses from lowering your credited interest below zero, and tax-favored cash value. Its weaknesses are just as real: capped gains, charges that come out every month, rates the insurer can lower, and a risk of lapse if the policy is underfunded. Whether the pros outweigh the cons depends on why you want it and how much you can keep paying in.

If you are new to how IUL works, start with our explainer on what indexed universal life insurance is. This guide weighs the trade-offs side by side.

What are the pros of indexed universal life insurance?

IUL's biggest advantage is that it combines permanent coverage with a cash value that can grow when a stock index rises, without direct stock market losses.

Lifelong coverage, if funded. IUL is a type of universal life, which FINRA describes as coverage for the life of the insured with flexible premiums. Unlike term, it doesn't expire after a set number of years as long as the policy has enough value to cover its charges. Check the maturity age, though: the Texas Department of Insurance notes that universal life stays in effect until a maturity date, usually age 95 or 100.

Flexible premiums. You can often pay more in good years and less in tight years, within limits. That flexibility is useful for business owners and people with uneven income.

A floor on index losses. Interest is tied to an index such as the S&P 500, but your money isn't invested in the market. If the index falls, the credit for that period is usually 0%, not a loss.

Upside potential. In years the index rises, you can be credited more than a typical fixed-rate policy pays, up to the cap.

Tax advantages. Under federal tax law, a death benefit paid because the insured died is generally not counted as income for the beneficiary. Cash value grows tax-deferred, and in a policy that is not a modified endowment contract, you can usually borrow against it without owing income tax while the policy stays in force.

Living benefit riders. Many policies offer optional riders, such as accelerated death benefits for terminal or chronic illness. They cost extra and vary by insurer.

What are the cons of indexed universal life insurance?

IUL's main drawback is that the costs are certain while the credits are not.

Caps and participation rates limit gains. A cap is the most you can earn in a period; a participation rate is the share of the index gain you receive. For example, if the index rises a hypothetical 20% and your cap is 10%, you get 10%. See our worked examples on how IUL caps and participation rates work.

Dividends usually aren't counted. The benchmark design in the NAIC's Actuarial Guideline 49-A uses only the change in the S&P 500 index value. The SEC explains the same point for indexed annuities, which use similar crediting: index gains are generally figured without the dividends paid on the underlying stocks.

The insurer can lower caps. Caps and participation rates can generally be changed over time, down to the guaranteed minimums in your policy. The cap you are shown at sale may not be the cap you get in year 10.

Charges come out every month. Premium loads, the cost of insurance, administrative fees and rider charges are deducted whether or not the index earns anything. The floor doesn't protect you from these charges, so your cash value can drop in a 0% year.

Cost of insurance rises with age. The Wisconsin insurance commissioner warns that the cost of insurance rate in a universal life policy increases as you age, and that the insurer may raise it up to the guaranteed maximum in the policy.

Surrender charges. Canceling or withdrawing heavily in the early years usually triggers surrender charges, which can last many years.

Complexity. Index options, crediting methods, loan types and riders make IUL hard to compare and easy to misunderstand.

IUL pros and cons at a glance

Here is a side-by-side summary of the trade-offs.

What have regulators warned about with IUL and universal life?

State regulators have warned that many universal life buyers were surprised by lapses and premium increases, and that illustrations can look better than reality.

In a 2019 consumer alert, the New York Department of Financial Services said it had received a higher than average number of complaints about universal life policies. It described consumers who paid for years and then found their policies had lapsed with little or no value, or who were asked for large extra premiums. Its advice was blunt: if you don't understand the policy, don't buy it.

Wisconsin's insurance commissioner issued a similar alert in 2021. It notes that premiums set at purchase rely on assumptions about charges and interest rates, and that if charges rise or credits fall, you may need to pay more later to keep coverage.

The NAIC has also tightened how IUL can be illustrated. According to the NAIC, Actuarial Guideline 49 was adopted in 2015 and replaced by AG 49-A for policies sold on or after December 14, 2020, with revisions that took effect in 2023 to tighten illustration limits and in 2026 to improve consumer disclosures. For policies sold on or after April 1, 2026, the guideline requires the illustration to include a statement substantially similar to: "Historical index changes shown in this illustration are not indicative of future returns."

Who might IUL fit, and who should probably skip it?

IUL tends to fit people who need permanent coverage and can fund the policy well above the minimum for many years.

IUL may be worth a look if you:

• Want coverage that lasts your whole life, not just until the kids are grown.
• Have steady cash flow and can pay more than the minimum premium, even in tight years.
• Already contribute enough to get any employer 401(k) match and have used other tax-advantaged accounts.
• Are willing to review an in-force illustration every year and adjust.

IUL is probably a poor fit if you:

• Mainly need coverage for 10 to 30 years, such as for a mortgage or young children. Term usually costs far less for that job; see IUL vs. term life insurance.
• Want fixed premiums and guaranteed cash value. Whole life may fit better; see IUL vs. whole life insurance.
• Might need the money within the surrender charge period.
• Are counting on the illustrated rate to fund retirement without a backup plan.

If retirement income is your main goal, read our guide to using IUL for retirement income before you commit.

What questions should you ask before buying IUL?

Ask questions that show how the policy behaves when things go wrong, not just when they go right.

1. What does the guaranteed column show, and at what age does the policy lapse under guaranteed charges?
2. What is the current cap, the guaranteed minimum cap and the participation rate for each index option?
3. How do the results change if the index credits 2 points less than illustrated every year?
4. What premium keeps the policy in force to age 95 or 100 under the lower rate?
5. How long is the surrender charge period, and what is the surrender value each year?
6. If I plan to take loans, what type of loan is it, what rate is charged, and what happens if loans plus charges exceed the cash value?
7. Will this policy become a modified endowment contract at the premium I plan to pay? Under 26 U.S.C. § 7702A, a policy funded faster than the 7-pay test allows loses some of its tax advantages on withdrawals and loans.

FINRA also suggests confirming that the person selling you a policy is properly licensed. You can check an insurance license through your state insurance department.

To see how specific insurers compare on floors, published rates, charges and complaint records, read our guide to the best IUL insurance companies.

For more IUL guides, including how IUL compares with a 401(k) and a Roth IRA, visit our IUL hub.