Variable universal life insurance policies build cash value from the premium amounts that remain after costs of insurance and administrative costs are paid. Because the cash value is invested in stock, bond, and money market investment options, it will be affected by market fluctuations.
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How does variable universal life insurance work?
Variable universal life insurance is a type of long-term life insurance that provides opportunities for growth through investments and a great deal of flexibility. However, as is the case with many investment products, it requires active participation and monitoring. This article outlines the steps for purchasing and managing a variable universal life insurance policy.
Benefits of variable universal life insurance
Variable universal life insurance is a more complex form of long-term life insurance, and it can provide significant benefits. The main reason people choose this type of insurance is to tap into market growth potential while also getting a death benefit. A variable universal life insurance policy allows you to take a more flexible, self-directed approach by choosing the way your funds are invested through a choice of investment options which are structured similar to mutual funds. Long-term life insurance can simplify estate planning, and variable universal life offers tax-deferred growth of the cash value.
Variable universal life insurance tax benefits
In addition to the tax-free death benefit for your beneficiaries, variable universal life insurance offers valuable tax benefits. The cash value that accumulates in the policy is allowed to grow tax deferred, and the cash value can be accessed tax free as long as your withdrawals don’t exceed the amount you’ve paid in premiums. However, accessing the cash value can reduce the available cash surrender value and the death benefit. For more details, check out our article on the benefits of variable universal life insurance.
Steps to purchasing variable universal life insurance
Variable universal life provides special features and flexibility, but it’s worth noting that it is not a set-it-and-forget-it policy. Additional management and oversight will be needed to reap the benefits and keep the policy on track. Here are the steps you should consider when purchasing and managing a variable universal life insurance policy:
Step 1: Identify your goals
The first step is to determine what you need from the policy. Are you looking for tax advantages, easy access to cash value, or a way to supplement retirement income? These considerations affect how you should structure your insurance policy. Variable universal life can cost more than other policies, but depending on your goals, the added flexibility may make it worth the additional cost.
When deciding how to meet your goals, it’s best to seek the help of a finance professional. Because of its complexity, variable universal life insurance can be sold only by a licensed insurance professional who also has a license to sell investments. When purchasing a policy, you’ll also want to make sure that the company you’re dealing with has a strong history of reliability.
Step 2: Choose your investment strategy
You decide how your policy’s cash value is invested. A portion of the premiums for a variable universal life policy pay for administrative costs and fund the death benefit. The remaining amount accumulates in the variable life insurance cash value account, which you invest in various investment options Variable universal life allows you to manage the funds according to your investment preferences and risk tolerance. An investment in variable universal life insurance involves market risk.
How does a typical variable universal life policy investment account grow?
Variable universal life insurance policies offer a variety of investment opportunities. Sub-accounts can contain combinations of stock, bond, and money market funds. Some are designed to mirror popular index funds, while others may follow more aggressive or more conservative strategies. The mix allows you more control and flexibility as market conditions change.
The market exposure offered by these investment options makes it possible for the policy’s cash value to grow at a faster rate than the cash value of other types of life insurance policies. However, that greater reward potential coincides with greater risk potential. You can use this growth to pay future premiums or to borrow against the account, although accessing the cash value will reduce the available cash surrender value and the death benefit. The ability to direct investments comes with greater exposure to market fluctuations, and as with all investments, your returns aren’t guaranteed. Some years, there may be losses.
Step 3: Monitor your policy regularly
Because market fluctuations can affect the cash value of your policy, it’s important to monitor the policy’s performance regularly. There is a flexible premium on your variable universal life insurance, and if the market dips, making the cash value go too low, you may need to increase your premium amounts to build back the cash value and prevent the policy from lapsing.
The primary purpose of variable universal life, of course, is a death benefit for your loved ones, but it can also be a smart addition to your overall financial strategy. With the guidance of a professional advisor, you can take advantage of its flexibility and investment opportunities. Variable universal life policies are sold only by prospectus. You should read a prospectus carefully for more complete information about the policy, including investment objectives, strategies, risks, charges and expenses.
Variable universal life FAQs
Money can be withdrawn from the policy’s cash value through loans taken out against the policy or partial surrenders. It’s important to note that cash distributions may decrease your variable universal life policy’s death benefit and the money available for future surrenders or partial withdrawals, and you must be careful to maintain the minimum cash value required to keep the account open, or the policy may lapse.
You can take a loan against the cash value accumulated in your policy. Interest will accrue and, if it is not paid back, it will reduce the amount of the death benefit. You must also make sure not to borrow too much since the policy could lapse if the cash value falls below a certain amount.*
You can cash out or surrender the policy. Surrender fees and any unpaid premiums will be subtracted, and you may have to pay taxes on the interest and dividends from the policy. The surrender closes out the policy and removes the death benefit payout.
You can withdraw cash value from the policy. You can either have it deposited into a bank account or you can request a check. The withdrawal will decrease the insurance benefit that goes to your beneficiaries as well as the available cash surrender value, and depending on the way your policy is written, the withdrawal could cause your premiums to increase.
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*The total outstanding loan balance (which includes accrued loan interest) reduces your policy’s available cash surrender value and life insurance benefit. The amount you borrow will accrue interest daily. Any loan interest that you do not pay when due will be added to the policy's outstanding loan principal and will also accrue interest daily.
If your policy lapses, or if you surrender it while you have an outstanding policy loan, you may be liable for federal or state income taxes if the value of the outstanding loan plus your cash surrender value is more than the total amount of premiums you have paid into your policy (less certain non-taxable distributions). New York Life will report any taxable gain to you, the Internal Revenue Service (IRS), and any applicable state taxing authorities. Please be sure to discuss this with your tax advisor.