Not much ‘bang for your buck’ in this investment

The Bakersfield Californian
November 19, 2010

A 46-year-old Bakersfield teacher came into my office recently with a “funny feeling” about an equity-indexed universal life insurance policy she had just purchased.

The woman was approached by a local salesman and invited to bring a group of her friends together for dinner to learn about a “surefire” investment plan that would create a tax-free retirement fund.

The woman gathered colleagues to attend the man’s seminar and enjoy a free meal. He was so convincing that she bought a policy. So did several of her friends.

But now the party-organizing teacher had second thoughts. The premium for her policy was about $150 a month, with fees that totaled about $100 a month. And while she was confused by the complexity of the policy, she figured out that after making payments for several years, the policy’s cash surrender value would be zero.

She wanted to know: Had she made a mistake? Would she see promised returns?

The woman and her friends are not alone. I have received calls from a variety of investors who are having second thoughts about buying equity-indexed universal life insurance policies. Many of these people are baby boomers, born from 1946 to 1964.

Their stories vary, but often include pressure from a salesman to take out loans and place their homes in financial jeopardy to buy large policies that later prove to be worthless. In some cases, the promise of tax-free loans may result in tax liabilities.

Some investors have cashed out equity from their homes to front-load these policies. I have heard stories of people who are now losing their homes after putting all their equity into a equity-index universal life insurance policy.

These policies mostly target middle class earners as the only non-Roth IRA way to create tax-free income. Unfortunately, some agents fail to mention that the only way to get tax-free income is to borrow against the policy. Not only are there no guarantees for future income, but the loans can eventually become taxable if things go wrong.

Still trying to recover from the 2008 stock crash, baby boomers who have witness their retirement savings evaporate can be vulnerable. They need to take the time to do appropriate research so they have a clear understanding of the short-term and long-term ramifications of any investment.

Consumers should get second and third opinions from reputable financial advisors. This is particularly true if they don’t fully understand the investment proposal.

Weighing the merits and demerits of equity-indexed universal life insurance policies can be tricky. These policies are often complex, lack performance data, and are loaded with fees. Salesmen are enticed to sell these policies by promises of high commission rates and “incentives” offered by insurance companies.

Equity-indexed universal life insurance policies have a “life insurance” component that pays a benefit when you die, plus an “investment component,” which usually earns a portion of the gains of a particular index, such as the Standard & Poor’s 500 Index. Typically a consumer is assured a modest minimum rate of return of around two percent, with “boom time” earnings capped.

Often the investment component is stressed, leaving consumers oblivious to the reality that they are buying a life insurance policy.

On the surface, these policies might appear to be a good deal for consumers. And the complex fine print is sometimes simplified by agents to enhance that appearance. But consumers eventually discover that performance of the investment component is dragged down by the high fees and that comparable insurance can be purchased more cheaply separately. In most cases, it is better to buy life insurance and investments independently.

In Money Magazine, senior editor Walter Updegrave wrote last year, “At first glance, these policies may seem like a wonderful idea, taking care of your insurance and investing needs in one efficient and convenient policy. The problem is, I don’t think they fill either of those needs very well.”

The number of complaints about these types of insurance policies seems to be growing as people desperately try to recover investment losses and plan for their retirements. I suspect I am seeing only the tip of the iceberg, as many people are embarrassed that they have been duped and are simply suffering in silence.

I advise Bakersfield investors who regret purchasing these policies to:

  • Find a qualified advisor to explain the policy and help determine if it makes financial sense. Preferably this should be done before a policy is purchased.
  • If a consumer believes the insurance policy has been misrepresented as primarily an investment, file a complaint with the California Department of Insurance at www.insurance.ca.gov
  • Seek a refund.

One axiom always applies to consumers: Caveat emptor. Let the buyer beware.