What is Variable Life Insurance?
Variable life insurance is a permanent life insurance product that offers both insurance coverage and investment opportunities. Unique to its structure are separate accounts that consist of various investment instruments, such as stocks, bonds, equity funds, money market funds, and bond funds.
Key Takeaways
- Permanent Coverage: Variable life insurance is designed to offer lifelong insurance protection.
- Investment Options: The policy includes separate accounts for investments in stocks, bonds, and more.
- Risk and Reward: With potential for higher returns, there also comes a significant investment risk.
- Cost: This policy type is generally more expensive compared to term life insurance.
How Variable Life Insurance Works
Variable life insurance operates somewhat like securities due to the incorporated investment risks. Under federal securities laws, such policies are regulated and consider investment products. Sales professionals are required to provide potential buyers with a prospectus of the available investment products. These policies carry specific tax advantages, such as tax-deferred earnings accumulation. As long as the policy remains active, policyholders can access the cash value tax-free through a loan. However, unpaid loans, full or partial surrenders, and the accrued interest will affect both the death benefit and taxable events at the distribution time.
Benefits of Variable Life Insurance
A major advantage of variable life insurance is its flexibility in premium payments and cash value accumulation. Unlike traditional life policies, the premiums are adjustable—policyholders can reduce or increase their contributions according to their current financial state and goals. For example, if the premiums paid are less than what’s required to maintain the policy, the accumulated cash value compensates for the shortfall. Excess premium payments, on the other hand, bolster the policy’s cash value and investment opportunities. The death benefit, unlike whole life insurance, varies based on the performance of the investment accounts.
One further appealing attribute is the wide range of investment options available, creating opportunities for maximized earnings according to an investor’s risk appetite—from conservative to aggressive investment strategies. Many top-tier life insurance companies also provide variable life insurance plans, enhancing its attractiveness.
Drawbacks of Variable Life Insurance
Despite its advantages, variable life insurance typically comes at a higher cost. Premiums not only cover insurance but also account for administrative fees and investment management. Additional payments may be needed to maintain the policy’s status depending on the investment outcomes. Policyholders bear the entirety of the investment risk—there are no guarantees of performance protection by the insurer, necessitating the policyholder’s attentive management of investment performances.
Furthermore, qualifying for a variable life insurance policy often requires full medical underwriting. Individuals with health complications or other unfavorable factors may face higher premiums or denial of coverage.
Why is Variable Life Insurance More Like a Security?
The presence of separate investment accounts within the policy, holding various funds and instruments, categorizes variable life insurance as a securities contract. These contracts imply investment risks and enforce regulatory requirements for sales professionals to provide a comprehensive prospectus.
Major Advantage of Variable Life Insurance
One standout advantage of variable life insurance is the policyholder’s ability to direct how their cash value is invested. With various options ranging from conservative to aggressive strategies, it allows for potentially higher returns than those seen in other insurance policies.
Related Terms: securities contracts, investment risks, tax benefits, whole life insurance.
References
- U.S. Securities and Exchange Commission. “Investor Bulletin: Variable Life Insurance”.
- Financial Industry Regulatory Authority. “Notice to Members 00-44: The NASD Reminds Members of Their Responsibilities Regarding the Sale of Variable Life Insurance”.
