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Variable Life Insurance vs. Variable Universal Life Insurance: An Overview

Variable life insurance products allow a portion of your premium to be allocated to the insurance company’s investment fund, allowing your beneficiaries to receive tax-free increased benefits if the fund grows.

Variable universal life insurance products feature the same investment opportunity with some extra features. These whole-life policies allow you to invest the cash value and provide flexible premiums and a flexible death benefit.

Key Takeaways

  • A variable life insurance policy allows most of the premiums to be invested in an investment account, combining the benefits of a variable policy with a whole life policy.
  • One of the key risks of both types of policies is the fluctuation in cash value and death benefits due to the performance of investments.
  • A key benefit is that the cash values of both types are allowed to grow on a tax-deferred basis.
  • Variable universal life insurance policies have fixed and variable death benefit options.

Investopedia / Sabrina Jiang


Variable Life Insurance

In a variable life insurance policy, the bulk of the premium is invested in one or more separate investment accounts, with the opportunity to select from a wide range of investment options. You can choose from fixed-income, stocks, mutual funds, bonds, and money market funds. Additionally, the interest earned on the accounts increases with the account’s cash value. Risk tolerance and investment objectives determine the amount of risk to be undertaken.

Typically, insurers have professional investment managers supervising the investments. As a result, policyholders will be charged management fees. Therefore, the overall asset performance of the investment is generally the main topic of concern.

Advantages and Disadvantages Of Variable Life Insurance

Advantages

  • Multiple investment options

  • Options for death benefits

  • Greater cash value accumulation

  • Tax-deferred growth

  • Death benefit can be raised with higher premiums

  • Regulated

Disadvantages

  • More expensive than standard life insurance

  • Assumed investment risks

  • Surrender charges apply

  • Death benefit is variable

  • Death benefit and cash value can still go down, even with higher premiums

Advantages Explained

  • Multiple investment options: Because of the available investment options, variable life insurance can potentially accumulate more cash than traditional whole life insurance. On the flip side, it has the potential to lose more, as well.
  • Options for death benefits: Variable life insurance policyholders can typically choose from one of two death benefit options. The death benefit option provides a set face value stated on the policy document. This death benefit does not change throughout the life of the policy.
  • Greater cash value accumulation: The second option is the face value. In other words, the death benefit equals the policy’s stated face value and the accumulated cash value. This ensures that what you’ve earned will be paid. However, it is more expensive than a fixed death benefit option.
  • Tax-deferred growth: As with permanent life policies, the cash value of a variable life insurance policy grows on a tax-deferred basis. Many insurers allow premium payments to be paid via the accumulated cash value, which reduces premium payments.
  • Death benefit can be raised with higher premiums: An increased death benefit requires higher premiums. The funding of the death benefit will be done by applying an assumed rate of interest, usually around 4%.
  • Regulated: The government regulates a variable life insurance policy because it invests in securities.

Disadvantages Explained

  • More expensive than standard life insurance: Variable policies are more expensive because there are administration fees and fees for managing the investments held by the fund.
  • Assumed investment risks: Like other insurance policies, these policies grow in value because they invest in stocks, bonds, or other securities. The policies inherit the risks of the underlying assets, so there is a possibility of loss if the market reverses.
  • Surrender charges apply: Surrender charges are fees for withdrawing cash or giving up coverage before the surrender period is over. For example, if you suddenly need some of the money in the account to cover an emergency, you’ll pay a fee to withdraw. Many surrender periods last 10 to 15 years.
  • Death benefit is variable: The death benefit will change with market conditions and the value of the securities held by the fund.
  • Death benefit can still go down, even with higher premiums: While you can increase the death benefit for a price, it can still go down if market conditions bring down the value of the securities held by the fund.

Variable Universal Life (VUL) Insurance

Variable universal life (VUL) insurance, as the name suggests, is a policy that combines variable and universal life insurance (i.e., flexible variable life insurance). This is one of the more popular insurance policies because it gives its policyholders the option to invest and alter the insurance coverage with ease.

Similar to universal life insurance, a policyholder can decide the amount and frequency of premium payments within specific limits. You may also make a lump sum payment within certain limits or use your accrued cash value toward premium payments.

Advantages and Disadvantages of Variable Universal Life

Advantages

Disadvantages

  • Risky investments

  • Accumulating loan interest

  • More expensive than standard policies

  • Cash value can decrease with the market

  • May need to pay more to maintain benefit

Advantages Explained

  • Flexible death benefit and premiums: As long as the minimum premium is paid to cover the cost of insurance, the death benefit will remain the same. However, the you may be able to stop paying premiums altogether if the policy has a sufficient cash value to keep the policy in force, allowing them to save what would have been paid as premiums.
  • Available cash value: For policies with a healthy cash value, you can withdraw or borrow against it.
  • Variety of investment options: You can choose from different investment types and strategies that align with their risk tolerances, beliefs, and strategy.
  • Tax-deferred cash value: The policy’s cash value grows on a tax-deferred basis.
  • Tax-free loans available: You can take loans against the policy’s cash value without paying taxes.
  • Adjustable death benefit: VUL policies allow you to increase and decrease the death benefit as tyou please. An increase in the death benefit calls for evidence of good health, while a decrease in the death benefit may have surrender charges. 
  • Regulated: A variable universal life insurance policy is regulated by the government because it invests in securities.

Disadvantages Explained

  • Risky investments: These policies invest in securities and inherit the risks those securities have. This makes it possible to sustain capital losses if the market takes a dive, which means you’d receive a lower death benefit. You’re offered separate accounts, which include funds tied to the market, and a fixed account, where money invested earns a fixed interest rate. The policyholder assumes the market risk with the separate account funds, including substantial returns or losses.
  • Accumulating loan interest: If you need money from your policy in an emergency, you can take out a loan; however, any loans must be repaid with interest.
  • More expensive than standard policies: Because VULs offer numerous features and benefits, they typically cost more than a standard whole-life policy.
  • Cash value can decrease with the market: A VUL can experience a decrease in cash value like any other investment if the underlying securities lose value.
  • May need to pay more to maintain benefit: If the cash value of the fund decreases, you may need to pay more into it to maintain your death benefit amount.

Insurance companies do not guarantee rates of return for investment funds.

Which Is Right For You?

The two life insurance products are very similar, so it might be difficult to choose which one is right for you. The key to both of these products is that they have variable death benefits, which makes them attractive to people who believe the market will produce favorable results. To choose between the two, answer these questions:

  • Do you want regular premium payments? – VLI
  • Do you want to set a minimum death benefit? – VLI
  • Do you want to be able to alter your benefit and premiums? – VLU
  • Do you want more control of the investments in your policy? – VLU

It’s important to note that both of these policies require taking on investment risk in your life insurance. Depending on market conditions, your beneficiaries may get more, or they may get less.

What Is a Variable Life Insurance Policy?

A variable life insurance policy allows the policyholder to use investments to fund their life insurance. The possibility for higher death benefits exists if the markets cooperate, but if they don’t, the benefit could be significantly reduced.

Who Is Variable Life Insurance Best For?

Variable life insurance is best for someone comfortable with investing risks and a variable death benefit.

What are the Benefits of Variable Life Insurance?

Variable life insurance lets you choose how you invest for your life insurance, and allows the policy’s cash value to grow.

What Are the Disadvantages to Variable Life Insurance?

Variable life insurance comes with inherited risks of the investments within the fund. You have the freedom to choose the assets you want, but if they do not perform, your returns, and thus your benefit, could be significantly reduced.

The Bottom Line

An individual’s insurance coverage needs may change over time, and variable life insurance products do an excellent job of factoring in these potential changes. As a result, variable life and VUL policies can create a hedge against inflation if they outpace it.

For some, controlling investments through variable life offers a desirable edge, while others may prefer VUL for its higher flexibility.

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