Date: Mon, 27 Aug 2007 12:23:41 -0500
From: Tad Borek 
Newsgroups: misc.invest.financial-plan
Subject: Re: To VUL or not to VUL?
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futureretiree@hotmail.com wrote:
> The promotional materials that I saw when looking for
> VUL information on the Internet tend to assume something
> like 4.5% loads, 2% annual expenses and 25% annual
> distributions for taxable accounts. This makes VUL look
> very good

Those VUL comparisons, to my cynical read, are: "look, pal -- I have 
some really awful and expensive mutual funds I can sell you, and if you 
buy those, you'll lose even more to costs than you would with VUL. So in 
most cases the VUL comes out ahead." It's the "dopey investor" 
comparison. The comparison to make is: what would I do instead? If it's 
going to be index funds with 0% loads, 0.2% costs, 5% turnover, use 
those numbers, with your tax bracket factored in.

> That said, there *is* an ongoing tax cost. Just to give
> an example, I like equity-income funds.  Both of our Roth
> IRAs are in VEIPX. If we held this fund outside the Roth,
> it would have thrown off a fair bit of taxable income.
> Admittedly, most of it would have been taxed at the low
> dividend rate, but I doubt this rate will survive
> a Democrat administration :(
> 
> Bond funds is another example.

This all speaks to tax efficiency in your portfolio, maximizing the 
after-tax return. You might hold your REITs, high-turnover small-caps, 
etc. in your qualified accounts for this reason. In the taxable accounts 
focus on investments with low turnover and income that gets the capital 
gains rate. On bonds you decide between taxables and gov't/munis, 
consider annuities as an alternative, and might even use the cash value 
of whole life as a proxy for fixed-income.

But you still haven't identified that you have a tax issue yet. If 
you're in the $400k+ AGI realm, with six-figure investment income 
landing on your tax return, this is the kind of stuff to obsess over. If 
you're in the 25% bracket, don't forget the simplicity of "pay the tax." 
People make a lot of sub-optimal choices by assuming taxes should be 
avoided at all costs, though the economic bottom-line is better when 
just paying Uncle Sam (overbuying a home, to get a bigger interest 
deduction, is another example).

When I was talking about that extra 1% cost, I was thinking in terms of 
marginal cost. It wouldn't surprise me if you do a VUL vs. "smart 
investor" comparison and end up with at least 1% in additional costs 
with VUL, annually, even after including tax drag. It depends entirely 
on the specific product and your alternatives, of course, as well as tax 
assumptions.

The other idea I want to throw out there is that it's not a given that 
retirement tax rates will be high. I have seen seven-figure portfolios 
alongside extremely low tax rates -- in the under-10% range (total tax 
paid divided by AGI).

I hear you on the risk with the LTCG/dividend rate...but it's there now, 
and it dictates the effect of investment income your 2007 tax return. I 
think all of us will be revisiting our investment choices if that's 
repealed -- and these other alternatives are likely to be there then.

-Tad