Universal life insurance policies offer lower premiums than whole life insurance and, unlike term life insurance, allow you to build up a cash value inside the policy. Though the fact that the cash value build-up isn't taxed as long as it grows in the policy may sound attractive, the policies have their disadvantages in terms of premiums, returns, lapse potential and surrender fees.
TL;DR (Too Long; Didn't Read)
Some disadvantages of getting universal life insurance include higher premiums, surrender fees, lapse potential and uncertain returns.
Paying Higher Premiums
If you're only looking for a policy to cover you for a certain period of time before you have sufficient assets that you don't need a life insurance policy anymore, it might not be worth paying the extra cost to build up a cash value in your universal life insurance policy. Instead, consider a term life insurance policy, which has lower premiums because it only pays out a death benefit, so the premiums are smaller. Plus, you can invest the difference between the cost of the universal life insurance premium and the term life insurance premium on your own, rather than being locked into the investment choices offered in the universal life policy.
Considering Lapse Potential
Universal life insurance policies offer flexibility in when you make your premium payments because the cash value can be used to reduce your premiums. However, if the interest rates on the cash value fall, you could find yourself out of cash value, and your policy could lapse if you can't pay the larger premiums. Some universal life policies offer a no-lapse guarantee, but these make the policy more expensive and reduce your flexibility in making premium payments.
Getting Uncertain Returns
One of the reasons for the increased cost of universal life is that you build up a cash value in the policy. However, the rates aren't guaranteed and can decrease after you've purchased the policy. Advertised returns should be taken with a grain of salt because the rates are reset quarterly. So, that attractive rate you signed up for might not be so attractive a few years, or even months, later.
Paying Surrender Fees
If you decide you don't want to keep your universal life insurance policy anymore, you're allowed to take out any cash value you've built up. However, you often have to pay surrender charges, which vary depending on how long you've had the policy. In addition, even though universal life may offer you the flexibility to adjust your coverage amount, you could find yourself on the hook for surrender charges if you reduce your coverage because you're essentially canceling a portion of your policy.
Mark Kennan is a writer based in the Kansas City area, specializing in personal finance and business topics. He has been writing since 2009 and has been published by "Quicken," "TurboTax," and "The Motley Fool."