What Is Variable Universal Life Insurance?
What is variable universal life insurance? Variable Universal Life is defined as a permanent type of cash value life insurance policy, in which the cash value can be invested into different accounts consisting, for example, of stocks, bonds and mutual funds. Permanent life insurance is called such because it is in force permanently (as long as you pay your premium payments).
What is variable universal life insurance? (explained)
Variable universal life insurance policies are like a mix of life insurance and an investment account. They can be a good choice for people who want a higher long-run return on their cash value and can tolerate risk. These policies have the potential to earn more per year than regular whole life insurance. However, there will be years when these policies earn less because of poor investment performance.
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The universal feature is also helpful for people who want flexibility over their premium payments. This requires some discipline though because if a policyholder doesn’t pay enough into their policy, they may not be able to afford to keep the policy in force later on. Over time, the cost of the insurance goes up so the insured needs to save enough money early so they can afford the more expensive premiums in the future.
What Are The Are The Features Of Variable Universal Insurance?
The main features of a variable universal life policy are a mix of those typically found in variable life and universal life policies:
1: Your premiums are adjustable: You have the ability to skip a payment or even stop paying your premium if the cash value of your policy can cover the costs, says the nonprofit group Life Happens. This is a feature borrowed from universal life insurance, and it may be helpful if an emergency leaves you short of cash.
2: You have investment variety and risk: As with a variable life policy, variable universal life lets you invest in underlying sub-accounts offering a variety of investment options. These investments are tied to financial markets, and the value of your policy may fluctuate as the value of your chosen investments go up or down. While the reward can be great, you’re also taking on risk that can reduce your cash value and, if by policy provisions the policy lapses, your death benefit could be lost as well, says the Insurance Information Institute (III). The upside? Transferring funds between investments is tax-free, so you’re not constrained by the potential tax implications, says Life Happens.
With VUL policies, you choose from a number of investment options for your policy’s sub-accounts. Life Happens states that you can typically invest in stocks, bonds or a combination of the two. You can also opt to invest in a fixed account, which provides a guaranteed minimum interest. The value of your policy’s sub-accounts fluctuate based on how these investments perform. If they do well, your policy’s value increases. If the investments decrease, though, your cash value will decrease as well.
3: You can increase the death benefit: If your insurance needs change over time, you can increase or decrease your coverage, says Life Happens. For instance, you may be able to request a death benefit increase or make a lump-sum payment to boost the policy’s cash value (though the IRS has limitations on how big that one-time payment can be), the group says.
4: You can withdraw or borrow from it: Like some other permanent life insurance options, a variable universal life policy allows you to withdraw funds or take out a loan against the cash value. The downside is that a withdrawal or a loan can reduce your death benefit, or result in a tax liability if you don’t follow guidelines on repayment.
How Is variable universal life insurance Different From Universal Life Insurance?
One main difference between variable universal life and universal life insurance policies is that VULs offer more investment options. You can select a number of different funds to essentially create a portfolio. Universal life policies do not offer this investment option, but you can select a policy with features that suit your needs, such as a fixed interest rate or one that fluctuates with the stock market.
Who Might Be A Candidate For Variable Universal Life Insurance?
Wondering if variable universal life insurance is right for you? Life Happens says it’s a good option for people “seeking maximum flexibility,” which also means you’ll want to be sure you can monitor investment performance and make decisions about where to allocate funds over time. It’s important to understand that investing involves risks that have the potential to reduce the policy’s cash value.
Of course, any decision about life insurance takes a bit of thought. That’s why it can be helpful to review your current circumstances and goals with a life insurance agent, who can help you find the policy to suit your needs.
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Risks of variable universal life
1: Cost of insurance – the cost of insurance for VULs is generally based on term rates and as the insured ages, the risk of mortality increases, increasing the cost of insurance. If not monitored properly the cost of insurance may eventually exceed the cash outlay depleting savings. If this continues long term the savings will be depleted and insured will be given an option to increase the cash outlay to cover the higher cost of insurance or cancel the policy leaving them with no savings and either no insurance, or very expensive insurance.
2: Cash outlay – the cash needed to effectively use a VUL is generally much higher than other types of insurance policies. If a policy does not have the right amount of funding, it may lapse.
3: Investment risk – because the sub accounts in the VUL may be invested in stocks and bonds, the insured now takes on the investment risk rather than the insurance company. The loss and gain of the investment fund mainly depends on the stock market flow.
4: Complexity – the VUL is a complex product, and can easily be used (or sold) inappropriately because of this. Proper funding, investing, and planning are usually required in order for the VUL to work as expected.
General Uses Of Variable Universal Life
These are the features typically marketed by insurance companies, however the VUL in most cases will limit the insured to being able to take advantage of only one of these features listed. Each of these features can be achieved through other means.
1: Financial protection – as with all life insurance programs, VULs can be used to protect a family in the case of a premature death.
2: Tax advantages – because of its tax-deferred feature, the VUL may offer an attractive tax advantage, especially to those in higher tax brackets. To attain them, the policy must be highly funded (though still non-MEC), for the tax advantages to offset the cost of insurance. These tax advantages can be used for either…
3: Education planning – the cash value of a VUL can be used to help fund children’s education, as long as the policy is started very early. Also, putting money into a VUL can be used to help children qualify for federal financial aid, since the federal government does not consider the cash value when calculating EFC (Expected Family Contribution).
4: Retirement planning – because of its tax-free policy loan feature, the VUL can also be used as tax-advantaged income source in retirement, assuming retirement is not in the near future and the policy is not a modified endowment contract. Again, the policy must be properly funded for this strategy to work.
5: Estate planning – those with a large estate (A filing is required for estates with combined gross assets and prior taxable gifts exceeding $5,430,000 effective for decedents dying on or after January 1, 2015) can sometimes use a VUL as part of their estate planning strategy to reduce or avoid estate taxes by setting up a life insurance trust sometimes known as an ILIT.