Key Takeaways
Universal life insurance is permanent life insurance that combines a death benefit with a policy account whose value depends on the contract, the amounts paid, the charges deducted and the investment options selected. It is designed to stay in force for life if enough value is available to cover the required charges.
The policy can be flexible, but it is not simply an investment account with free withdrawals. Returns are not guaranteed unless a selected option says they are, and using the cash value can affect the death benefit, the policy's ability to stay in force and the tax result.
What is universal life insurance?
Universal life insurance is a type of permanent life insurance. The policy separates the cost of coverage from a policy account. You can usually choose how money above the insurance costs and fees is allocated among the options offered by the insurer.
The death benefit protects the people or organizations you name. The policy account may build cash value, but its value can rise or fall with credited returns, fees, withdrawals and the cost of insurance.
How does universal life insurance work in Canada?
- You pay into the policy. The contract sets the minimum and maximum amounts you may pay and any conditions on changing payments.
- The insurer deducts costs. These may include the cost of insurance, administration fees, optional benefits and applicable premium tax.
- The balance goes to the policy account. You allocate it among the interest or investment options available under the contract.
- Policy charges continue. The insurer deducts the required charges from the policy account. If the account cannot cover them, you may need to add money to prevent the policy from lapsing.
| Part of the policy | What to check |
|---|---|
| Premium payment | The permitted range, timing and effect of paying more or less |
| Cost of insurance | Whether the cost is level or increases over time |
| Investment options | How returns are credited, what is guaranteed and what can lose value |
| Fees and taxes | Administration fees, premium tax, fund charges and surrender charges |
| Death benefit | Whether it is level or changes with the policy account |
Illustrative scenario: a temporary pause in payments
Suppose a policyholder stops making new premium payments for a period. The policy may stay in force while its account value is enough to cover the required charges. If the value falls below what the contract requires, the insurer may request an additional payment. If the requirement is not met, the coverage can lapse. The timing and notice rules come from the policy contract.
Advantages and disadvantages of universal life insurance
Potential advantages
- Lifetime coverage: the policy can remain in force for life when its requirements are met.
- Payment flexibility: many contracts let you change the amount or timing of payments within stated limits.
- Investment choice: you can select among the interest or investment options offered by the insurer.
- Access to cash value: the contract may allow withdrawals, policy loans or a full surrender.
- Tax treatment: growth inside an exempt policy can receive tax-preferred treatment within legal limits, and the death benefit is generally paid tax-free to the beneficiary.
Important disadvantages and risks
- Complexity: charges, insurance costs, investment performance and payment choices interact over many years.
- Investment risk: non-guaranteed account values may be lower than an illustration suggests.
- Lapse risk: flexible payments do not remove the need to cover ongoing policy charges.
- Access is not free: withdrawals, loans and surrender charges can reduce cash value or the death benefit and may create taxable income.
- Higher initial cost than term: permanent coverage generally costs more than term life insurance when first purchased.
Common universal life contract choices
Canadian insurers do not all use the same labels or offer the same options. The contract matters more than a product nickname.
Level or increasing cost of insurance
A level-cost structure keeps the stated cost of insurance more predictable. An increasing or stepped-cost structure starts lower and rises as the insured person gets older. A lower early cost can leave more money in the policy account, but later charges may place more pressure on it.
Investment options inside the policy
A policy may offer guaranteed-interest, market-linked or managed investment options. These are choices inside the universal life contract. Review how returns are calculated, which values are guaranteed, the fees charged and what happens after a negative return.
Death benefit options
Some contracts offer a level death benefit, while others allow the benefit to vary with the policy account. A change may affect charges or require new evidence of insurability. Use the contract's wording rather than assuming every policy works the same way.
Universal life versus term and whole life
| Policy type | Main trade-off |
|---|---|
| Term life | Coverage for a set period, usually at a lower initial cost, with no cash value |
| Whole life | Lifetime coverage with payments set by the contract and usually a guaranteed minimum cash value |
| Universal life | Lifetime coverage with more payment and investment flexibility, but values and funding need closer review |
Neither permanent option is automatically better. Whole life insurance may suit someone who values clearer guarantees and less hands-on management. Universal life may suit someone who accepts more moving parts in exchange for payment and investment flexibility.
Who may consider universal life insurance?
Universal life may be worth comparing when you have a lifelong insurance need, can fund the policy consistently, understand the investment choices and are prepared to review performance over time.
It may be a poor fit when the main goal is affordable temporary protection, predictable guarantees or easy access to savings. If the insurance need ends after a mortgage is repaid or children become independent, term life may solve the problem at a lower initial cost.
Accessing cash value
Withdrawals
A partial withdrawal reduces the policy account and may reduce the death benefit. It may also create taxable income. The amount available and any minimum, fee or market-value adjustment come from the contract.
Policy loans
A policy loan is advanced by the insurer under the policy against its cash value and carries interest. An unpaid balance may reduce the amount paid to the beneficiary and can increase lapse risk. A policy loan may also have tax consequences.
Surrendering the policy
Cancelling the policy ends the coverage. You receive the net cash surrender value after applicable charges, loans and interest are deducted. The amount may be taxable.
Frequently asked questions
Can I change the premium or death benefit?
Often, but only within the contract's limits. Paying less can leave less money to cover future charges. Increasing the death benefit may require new medical or financial underwriting, and either an increase or decrease can change the policy's costs and values.
What happens if I stop paying premiums?
The policy does not necessarily lapse immediately. Charges may continue to come out of the policy account while enough value remains. If the account cannot cover them and the required payment is not made within the contract's notice period, the policy can lapse.
Are universal life returns guaranteed?
Only a return or value identified as guaranteed in the contract is guaranteed. Sales illustrations show scenarios, not promised results. Ask to see both favourable and unfavourable projections and compare them with the guarantees in the policy.
Is universal life insurance taxable in Canada?
The death benefit is generally received tax-free by the beneficiary. Growth inside an exempt policy can receive tax-preferred treatment within legal limits, but a withdrawal, policy loan, ownership transfer or surrender may create taxable income. Get tax advice for your situation before accessing the value. To decide who receives the death benefit, see our guide to naming a life insurance beneficiary.
Bottom line
Universal life insurance can provide permanent coverage with flexible funding and investment choices, but it needs active monitoring. Compare the guaranteed values, non-guaranteed assumptions, cost-of-insurance structure, fees and lapse conditions before deciding. The right policy is one you can understand and sustain, not the one with the most optimistic illustration.
Sources
Jacomo Deschatelets, CMO & Cofounder, Life Insurance Expert
Questions? Email us at editorial@emma.ca
Jacomo Deschatelets
Questions about this page? Email us at editorial@emma.ca
