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Variable Life Insurance Explained: How It Works, Types, and Examples

Last updated 03/19/2024 by

Abi Bus

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Variable life insurance, a permanent life insurance product with investment accounts, offers both advantages and disadvantages. This article delves into the workings of variable life insurance, its pros and cons, and its similarity to securities. It explores how policyholders can use the flexibility it provides for premium remittance and cash value accumulation. Plus, you’ll learn why variable life insurance can be a costlier option compared to other insurance types. Understanding its unique features is crucial to making informed financial decisions.
Variable life insurance is a unique financial product that combines elements of life insurance and investment. This article explores what variable life insurance is, how it works, its advantages, disadvantages, and more.

What is variable life insurance?

Variable life insurance is a permanent life insurance product that distinguishes itself by offering policyholders the opportunity to invest their premiums in various instruments and investment funds. These investments typically include stocks, bonds, equity funds, money market funds, and bond funds.

How variable life insurance works

Variable life insurance can be described as a form of securities due to its investment risks, and it is regulated under federal securities laws. Sales professionals are required to provide potential buyers with a prospectus of available investment products, ensuring transparency and informed decision-making.
Variable life insurance policies offer several tax benefits, such as tax-deferred accumulation of earnings. Policyholders can access the cash value through tax-free loans as long as the policy remains in force. However, it’s important to note that unpaid loans, including principal and interest, can reduce the death benefit. Interest or earnings in partial and full policy surrenders are taxable at the time of distribution.

Advantages of variable life insurance

One of the most attractive features of variable life insurance is its flexibility in premium payments and cash value accumulation. Unlike traditional whole life insurance or term insurance, premiums are not fixed. Policyholders can adjust their premium payments within limits based on their needs and investment goals.
For example, if a policyholder pays a premium lower than what is required to sustain the policy, the accumulated cash value can compensate for the difference. However, it’s essential to understand that consistently paying reduced premiums in the long term can compromise the cash value and the overall policy status. Alternatively, policyholders can increase their premium payments to boost their cash value and investment holdings.
Unlike whole life insurance, the death benefit in variable life insurance is linked to the performance of the separate account funds. A positive aggregate performance can provide increased financial protection to the beneficiary upon the insured’s death.
In addition to its flexibility, variable life insurance offers the potential for significant investment earnings. Many policies provide a wide array of investment options, ranging from conservative to aggressive strategies, to suit the needs of most investors. Some of the best life insurance companies, including Prudential and New York Life, offer variable life insurance plans.

Disadvantages of variable life insurance

Compared to other life insurance policies, variable life insurance is typically more expensive. Premium payments cover administrative fees and the management of the plan’s investments. Policyholders may need to increase payments to keep the policy active or to maintain a specific death benefit based on the performance of investment products and premiums remitted.
To secure policy guarantees, some policyholders pay premiums exceeding the cost of the insurance policy. Additionally, policyholders bear all the investment risks, as the insurer does not offer guarantees of performance or protect against investment losses. This emphasizes the importance of policyholders being educated about their investments and attentive to the separate account performance.
Like most life insurance policies, obtaining variable life insurance requires individuals to undergo full medical underwriting. Those with compromised health or unfavorable underwriting factors may not qualify for coverage or may face higher premiums.
Here is a list of the benefits and drawbacks to consider.
  • Flexibility in premium payments and cash value accumulation
  • Potential for significant investment earnings
  • Wide array of investment options
  • Higher cost compared to other life insurance types
  • Need for increased payments to maintain the policy
  • Policyholder bears all investment risks

Frequently asked questions

How is variable life insurance closer to a security than an insurance policy?

Variable life insurance is considered closer to a security due to its investment component. It comprises separate accounts with various instruments and investment funds, such as stocks, bonds, equity funds, money market funds, and bond funds. Because of the investment risks involved, variable policies are regulated under federal securities laws, and sales professionals are obligated to provide potential buyers with a prospectus of available investment products.

What’s a main advantage of the variable life insurance policy?

One significant advantage of a variable life insurance policy is that policyholders have control over how they invest their cash value. These policies offer a wide array of investment options, catering to a range of investor preferences, from conservative to aggressive. This flexibility can potentially lead to returns that surpass those of other insurance policies.

Is variable life insurance suitable for everyone?

Variable life insurance may not be suitable for everyone. It’s ideal for individuals who seek both life insurance coverage and investment opportunities. However, it’s important to carefully consider your financial goals, risk tolerance, and long-term commitment as it can be more complex than traditional life insurance.

How do I choose the right investment options within a variable life insurance policy?

Selecting the right investment options depends on your financial goals, risk tolerance, and investment knowledge. Most policies offer a range of investment funds, from conservative to aggressive. Consider consulting a financial advisor to help you make informed decisions.

Key takeaways

  • Variable life insurance combines elements of life insurance and investment, allowing policyholders to invest in various instruments and funds.
  • Policyholders can access tax-deferred earnings and cash value through tax-free loans, with potential benefits of flexibility and tax advantages.
  • However, variable life insurance is generally more expensive than other insurance types, and policyholders bear all investment risks.
  • Premium flexibility can be an advantage, but consistently paying reduced premiums may affect policy status.
  • The death benefit in variable life insurance is tied to the performance of separate account funds.
  • The policy’s investment component makes it subject to federal securities regulations.
  • Policyholders have control over their cash value investments, with a range of options available, from conservative to aggressive.
  • Variable life insurance requires medical underwriting, and individuals with health issues may face challenges in obtaining coverage.

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