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What is variable life insurance?

Daniel Walker
Licensed Insurance Agent for 15 Years

UPDATED: Mar 19, 2020

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Variable Life InsuranceA common life insurance question is “What is variable life insurance?” Variable life insurance is a financial product that has an investment component as well as paying out a benefit when the policyholder dies.

A certain amount of the variable life insurance premium the policyholder pays for coverage is invested. The policyholder can access the profits from the investment plan on a tax-free basis.

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Premiums Invested in Variable Life Insurance

With a variable life insurance plan, the majority of the amount paid in premiums is invested on the policyholder’s behalf. The policyholder has numerous choices about his or her investments, and the funds do not all have to be placed in the same investment account. The policyholder can choose from a selection of stocks, bonds, mutual funds and money market accounts. Fixed income investments are also an option.

The policyholder makes his or her choice based on individual investment goals and the level of risk he or she is willing to take. Once the investment plan has been set up, the policyholder may be able to transfer investment funds in between accounts, depending on the insurance company’s policy for doing so.

An insurance company offering variable life insurance to its policyholders will have a full-time investment manager who is responsible for looking after the overall performance of specific investment funds. The policyholder only needs to be concerned with how his or her investments within the insurance plan are performing. With the help of investment professionals, the overall risk associated with investing can be managed more effectively.

Risk Involved in Variable Life Insurance

This type of insurance policy is considered to be quite risky. The cash value and the death benefit payable to the beneficiaries vary, depending on how well the investment portfolio performs. If the investments are performing well, the overall value of the policy increases. On the other hand, if the investments do poorly, the death benefit and any cash value accumulated in the policy also decreases.

The variable life insurance policy can offer a guaranteed death benefit payable under the policy. With this type of policy, the death benefit is guaranteed not to fall below a set amount, no matter how the investments chosen by the insured perform. The policyholder will need to pay higher premiums to get this privilege, though.

In this case, the death benefit is funded by the insurance company setting an assumed rate of interest for this portion of the policy. If the fund balance performs better than the assumed rate of interest, the death benefit increases, and if it performs at a lower level than the assumed rate of interest, the death benefit decreases.

The insurance company does not guarantee to pay out a particular amount for the death benefit with a variable life insurance policy. If the investments chosen are not performing well, the insured may have a lower benefit to leave to his or her beneficiaries, or perhaps none at all. The insured can borrow against the cash value of his or her insurance policy, but the amount that will be extended as a loan is restricted to account for the fact that investments rise and fall in value.

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Tax Advantages to Variable Life Insurance

One reason a person may want to consider a variable life insurance policy is that the funds accumulate on a tax free basis. The insurance company may offer to pay part of the premiums out of the accumulated cash value in the policy, which does help to reduce costs to the policyholder. If the investments do not perform well, this amount will be adjusted to reflect the lower amount of funds available and the insured will need to pay more for his or her coverage.

When the funds from a variable life insurance plan are used as collateral for a loan as opposed to withdrawing the money from the plan directly, the insured can access them during retirement on a tax-free basis. Before doing so, the policyholder should meet with a financial adviser to discuss his or her goals and ensure that this is the right choice.

A variable life insurance policy isn’t for everyone, but it is worth considering for some individuals. The benefits that this plan provides must be carefully weighed against the risks that it presents. Since this type of policy involves investments, interested individuals should check out the prospectus to learn about the plan’s past history before making a decision. An agent selling this type of product must have a valid life insurance license, as well as one from the National Association of Securities Dealers (NASD).

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