Variable life insurance: What everyone needs to know in 2021

While the cash value and tax benefits of variable life insurance may be attractive, this form of permanent life coverage has downsides you shouldn't overlook.

Everyone would love to be a successful investor. The thought of your hard-earned money growing because of your wise choices is very enticing. And, the good news — you have plenty of options to invest your money in: stocks, bonds, mutual funds, commodities, real estate, and many more.

To some people’s chagrin, life insurance companies and their agents consider life insurance a good investment. They believe that life insurance has many benefits and should be part of most people’s portfolios.

In this article, we’ll address that claim and examine a type of permanent life insurance that you might consider: variable life insurance. We’ll look at its pros and cons and compare it to some other life insurance products that also make a pretty compelling case for benefiting owners of life insurance.

What is variable life insurance?

Variable life insurance is a type of permanent life insurance coverage that lasts your entire life. One of the major selling points of variable life is its tax benefits — the investment portion of the policy isn’t taxed while it’s growing, and the life insurance death benefit of a variable life policy is paid out as tax-free to your beneficiaries. Though it offers financial protection for a policyholder’s heirs, variable life is most often bought for its cash value accumulation feature.

How does variable life insurance work?

Here are four key things you need to know if you’re considering variable life:

  1. Your beneficiaries will receive a death benefit specified in the policy when you die. As with all types of life insurance, the premium amount will increase with the size of the death benefit you apply for (the premium increases as you increase the face amount of the policy). As much as you might be tempted to buy variable life because of the tax benefits it offers you; there is no escaping the fact that it is a life insurance policy.
  2. As long as you want to keep the policy in force, you need to make your monthly or annual premium payment. Just as you do with whole life insurance, you pay premiums for your entire life.
  3. A portion of each premium payment goes into the cash value portion of the policy. When you apply for the policy, you specify how much of the premium you want to go towards the cash value. The objective of this portion of the premium is to grow appreciably on a tax-deferred basis.
  4. You get to select the various funds your insurance company offers (they’ll vary from company to company). The growth of your cash value is going to be tied to the broader trends of the market. Many people like this feature and choose variable life because of it, and they’re comfortable with their money being subject to the inevitable fluctuations of the market.

When it comes down to it, variable life mirrors whole life, with the big difference between the two being how the cash value can grow each year you own the policy. Unlike variable life, which carries market risk for your cash value, with whole life you’re credited a guaranteed interest rate for your cash value growth, making it more appealing for people that aren’t comfortable with their life insurance policy being used as an investment.

Pros and cons of variable life insurance

As you evaluate variable life insurance, you’re going to see some pluses and minuses that you’ll need to consider as you compare it to other types of life insurance.

Pros of variable life insurance

  • Variable life provides the benefit of having life insurance in place to protect your family financially and replaces your income to help pay the mortgage, send kids to college, pay off loans you don’t want to leave behind, and many other purposes people want and need life insurance for.
  • For individuals whose estates are large enough to create an estate tax bill, variable life’s death benefit provides a tax-free payment to the heirs because life insurance is exempt from income or estate taxation.
  • Variable life pays for final expenses, such as unpaid medical bills, funeral expenses, and the many other costs incurred at death.
  • It provides a tax-deferred savings element that uses insurer-provided funds for the policyholder to choose from for capital growth.

Cons of variable life insurance

  • Variable life is expensive compared to other types of life insurance available. For a much lower cost, many people prefer term life insurance over variable life.
  • Compared to other investments like a 401(k), variable life offers limited investment options to select from, which prevents the policyholder from having access to many much better-performing funds.
  • The policy will lapse if you have a change in your finances and can’t keep up with the premium payments. You can surrender the policy to the insurance company, which will get you a portion of your cash value in return, but you will face surrender charges taken from the cash value.

Variable life vs. permanent life alternatives

After weighing the pros and cons of variable life, you may find yourself looking for another type of permanent life insurance. Here are five to consider:

1. Whole life insurance

Whole life insurance is the original form of permanent life insurance. Insurance companies love to sell whole life policies. The exposure to the insurer decreases when they recover the cash value after the insured dies unless there are outstanding policy loans - those will be deducted from the death benefit before it’s paid to the beneficiaries. The cash value grows through a fixed interest rate predetermined by the insurance company. Insurance agents love to sell whole life because of the large commissions.

2. Universal life insurance

Universal life insurance looks very much like whole life insurance. A substantial difference between the two is that universal life offers greater flexibility by allowing the policyholder to use the cash value to pay the premiums. Also, the interest rate with universal life isn’t fixed, making it more appealing to people looking for greater cash value growth.

3. Variable universal life insurance

Variable universal life insurance offers the same benefit of flexible premium payments as universal life, but there is a big difference with how the cash value grows. With variable universal life, the policyholder decides how the premiums are invested, making it popular with people interested in buying life insurance as an investment they can control.

4. Final expense life insurance

Final expense life insurance is another type of permanent life insurance that is very popular with older adults. It is offered with comparably lower face amounts that are beneficial in paying for final expenses and outstanding debts.

5. Guaranteed life insurance

Guaranteed life is helpful for older adults or individuals that may not medically qualify for other types of life insurance. It isn’t very difficult to get approved for guaranteed life coverage, which comes with face amounts that insurers often cap because of the higher risk they’re assuming.

Who should buy variable life insurance?

For people that have exhausted the other avenues of tax-advantaged investing available to them, variable life is an option. But, the high cost of variable life makes it unattractive to many people shopping for life insurance. Numerous people gravitate towards life insurance with lower rates, and they then take the difference in premium and invest it in things like IRAs and 401(k)s.

Variable life’s biggest threat: Term life insurance

You’ve probably heard and read advice that promotes the strategy of “buy term and invest the difference.” This is a viable option considering the much lower cost of term life insurance. For someone that needs life insurance and has the goal of accumulating savings outside of a life insurance policy, term life provides them the best of both worlds. They get affordable premiums coupled with the chance to invest the difference in any type of investments they choose.

However, there are two drawbacks to term life insurance to be considered:

  1. Term life insurance doesn’t offer permanent protection. Eventually, term life premiums will increase, whether it be in one, ten, twenty, or thirty years, but they will increase to the point where they become unaffordable, compared to permanent life insurance that can be kept for the rest of an insureds life. This isn’t a problem for people buying term life insurance as a temporary solution to a financial obligation with an expiration date, like paying off a 30-year mortgage or paying for their children’s education when they turn 18.
  2. Many people don’t invest the difference – they end up spending it. Life insurance agents are good at selling term insurance if they believe it’s a better alternative for a prospect than permanent life insurance. But, they’re generally not as good at helping their new client invest the difference, unlike a financial planner is. For that reason, many people walk away with a term life policy and no idea of how to invest the difference, so the difference ends up in their checking account and is spent on other things.

The bottom line — if you want to buy permanent life insurance with a death benefit and cash value growth at a higher rate than whole life and isn’t subject to the market risk that variable universal life carries, variable life insurance may be just the right permanent policy for you. But, if you will “invest the difference” when you buy term life insurance and don’t need the life insurance forever, term life is probably your best choice.


Having grown up in upstate New York, Bob Phillips spent over 15 years in the financial services world and has been making freelance writing contributions to blogs and websites since 2007. He resides in North Texas with his wife and Doberman puppy.

The information and content provided herein is for educational purposes only, and should not be considered legal, tax, investment, or financial advice, recommendation, or endorsement. Breeze does not guarantee the accuracy, completeness, reliability or usefulness of any testimonials, opinions, advice, product or service offers, or other information provided here by third parties. Individuals are encouraged to seek advice from their own tax or legal counsel.