Variable Universal Life Insurance

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Is Variable Universal Life for You?

Variable Universal Life (VUL) is known as the most flexible type of life insurance. Premiums are flexible, you can have a level or variable face amount, you can choose the investments from a menu of options for the cash value portion of the policy, and you can borrow taking a policy loan if the need arises.

As long as you pay enough in premium to keep insurance part of the policy in force, you can vary the frequency and amount of your premium payments and, as a result, vary your death benefit. For example, this flexibility lets you start with a high life insurance value if you need it to cover a mortgage. You can then decide to decrease the face value and allow your cash value to grow more quickly as your mortgage balance decreases.

This may sound like a good deal, but makes sense in only a few specific financial planning situations. Most times it makes more sense to buy term life and invest the difference. Here are examples when VUL is a good choice:

You have a health condition and cannot quality for term life. The qualifications for term life are the most difficult to meet. Sometimes you can qualify for VUL when term life is not an option.
You have maxed out on all you tax shelter options - such as 401(k)s or IRAs. You are looking for a vehicle to grow your money tax free and don't want to invest the money on your own. This option may make very good sense for the purposes of estate planning, but you should make this determination while working with a good financial planner who is looking at your entire financial picture.
You can access the cash value portion of the policy with no 10-percent IRS penalty prior to age 59 1/2 for college expenses, a second home, travel or other financial needs. You can withdraw these funds tax-free up to the cost basis as long as the policy is in force. Withdrawals will reduce the cash value and death benefit proceeds.

What are the disadvantages of VULs?

There are two major disadvantages: fees and lack of investment options. The insurance fees are considerable and do not make sense unless you truly need the insurance. An annuity would be a better option if your primary goal is additional tax shelter and you don't need the insurance. Fees you will need to consider include the annual mortality and expense charge, the premium load (premium expense charge plus premium tax charge), sales load (if any), monthly administrative charge, monthly cost of insurance, and policy surrender charges for early withdrawal, if applicable. Your gains will be taxed when you withdraw them. The other big disadvantage is the lack of investment options for the cash value accumulation portion of the fund. The insurance company significantly limits the mutual funds you can choose.

If you need to withdraw the funds, fees may also take a huge bite especially in the early years. Many universal life policies carry back-end surrender charges that are deducted from the balance in your fund. These fees start out high in the early years and slowly decrease until they finally disappear usually in the 15th or 20th policy year.

Is your money guaranteed?

You will usually get a minimum interest guarantee from the insurance company, while the actual performance of the cash value fund is based on insurance company investments. In exchange for taking the risk of basing your return on investments, your premiums can be lower than those of a whole life policy. You do take the risk of possibly needing to add more than originally expected to cover your life insurance premiums to keep the policy in force if the investments do not do well. Universal can be an economical alternative to traditional whole life and may even cost less. Be sure you understand how the universal life policy works and that it makes sense given your money situation and life insurance needs.

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