Variable Life Insurance: Risks and Benefits
One of the most popular forms of life insurance is the variable
life insurance policy. With variable life, one gets permanent
insurance (like whole) along with the opportunity to isolate
specific investment opportunities at which premiums are
directed.
One can invest in any number of opportunities with a variable
life insurance plan. In essence, the insured is able to control
the investment of the policy's cash value instead of relying
upon the pre-established rate of return provided in a whole life
solution. This makes variable life insurance very attractive to
those who believe the rates of return offered by more
traditional insurance policies can be easily outstripped with
superior investment strategies.
However, variable life insurance policies carry with them a
level of risk directly proportional to the skill of the investor
and the quality of his or her decisions. Although variable
policies create an opportunity for tremendous growth, they also
allow a market decline to decimate the cash value of the policy.
Fortunately, there is some safety net, as variable life policies
will retain a death benefit that will not fall below the amount
of insurance initially purchased. As such, even an errant
investor cannot decimate the true insurance value of the policy,
even though he or she may do tremendous harm to its cash value.
Absent consideration of the investment component, variable life
policies are quite similar to whole life policies. In both
cases, death benefits remain fixed, regular premiums are fixed
and the insured can borrow against the cash value of the policy.
Also, in both policy types the cash value accumulated by the
policy is tax-deferred. The investment component inherent in
variable life insurance policies requires they be considered a
security by the federal government and a prospectus is issued
for all variable life insurance policies. This "security"
labeling does not significantly alter the behavior of the plan
when compared to other insurance plans, however.
Variable policies provide an opportunity to retain appropriate
levels of death benefits while having the simultaneous
opportunity to invest premiums on one's own in hopes of
generating a higher cash value for the policy. This creates a
tremendous potential upside for variable life insurance
policies, but also opens the door for potential losses in cash
value depending on investment performance. Although one will not
see a change in death benefits if investments fail to adequately
perform, they will see a decline in cash value that can
significantly reduce the policy's utility as a source of
supplemental retirement income or as a means of handling
financial emergency.
Alternatively, a savvy investor can use a variable life policy
to create a sizeable retirement nest egg while deferring taxes
until dispersal. Successful investment can produce a cash value
for the policy that could conceivably dwarf the value of whole
life policies. The flexibility of variable life insurance plans
and the possibility of generating significant cash value gains
makes them a very popular life insurance for those with the
skills or insight to invest wisely.