What Is Variable Life Insurance and How Does It Work?

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Variable life insurance is a type of permanent life insurance that provides lifelong coverage and includes an investment component that allows the cash value to grow over time. It offers a way to protect your financial dependents and the opportunity to build wealth through market-based investments. Here’s an in-depth look at how it works, when to consider it and other alternatives.

What Does Variable Life Insurance Provide?

Variable life insurance provides lifelong coverage — you don’t need to renew or update it. It also provides a death benefit for your beneficiaries.

But here’s how variable life insurance differs from term or whole life insurance — it includes a cash value component invested. Based on the stock market, the policy’s value may rise or fall over time. This makes it riskier than other life insurance policies. 

Key Features of Variable Life Insurance

The core function of a variable life insurance policy is to protect your beneficiaries financially. Here are some key features to know:

• Permanent coverage: The coverage lasts for your entire life. Other types of life insurance, like term, expire after a set number of years. 
• Death benefit: Your beneficiaries will receive a death benefit whenever you die. You can adjust the amount as needed. 
• Cash value component: It includes an invested cash value component, usually in mutual funds. 
• Investment risk: Your policy’s cash value may grow over time, or it may decrease instead.
• Policy loans and withdrawals: You can borrow or withdraw from the cash value. If you don’t follow the repayment guidelines, however, it may reduce the death benefit or result in a tax penalty. 
• Flexible premiums: The insurer might accept smaller payments or dip into your policy’s cash value to cover the necessary policy fees.

How Does Variable Life Insurance Work? Step-by-Step Breakdown

Variable life insurance includes three main components: lifetime coverage, a death benefit and a cash value. To understand how the policy functions over time, here’s a step-by-step look at how it works from the moment you enroll to when the benefit is paid out.

Step 1: You Pay Regular Premiums

A portion of each payment goes toward your policy’s cash value, while the rest covers the cost of insurance.

Step 2: You Can Adjust Your Monthly Payments

Depending on the policy and insurance company, you may be able to adjust your premium amount to better fit your budget.

Step 3: Your Cash Value Grows Over Time

Funds in the cash-value account are invested and can grow tax-deferred. Keep in mind that gains are taxable if you make a withdrawal or take a distribution. 

Step 4: You Can Access the Cash Value

While you’re alive, you can access the cash value of your life insurance policy. When you have enough funds to tap into, you might be able to take out a loan or make a withdrawal.

Step 5: A Death Benefit Is Paid to Your Beneficiary

When you pass away, your beneficiary receives a financial payout. Any unpaid loans or withdrawals will be deducted from this amount.

Pros and Cons of Variable Life Insurance

Like any financial product, variable life insurance comes with both benefits and potential drawbacks. Here’s a look at the pros and cons to consider.

Who Should Consider Variable Life Insurance?

Life insurance is essential, but it’s challenging to pick the correct type of policy. Variable life insurance comes with specific perks, but it’s more beneficial for some people than others. 

When to consider:

• You’re a high-income earner who needs tax-deferred investment growth.
• You have long-term wealth transfer goals for your dependents.
• You already max out other investments. 
• You can afford higher monthly premiums. 

When it isn’t the right option:

• You want a straightforward life insurance plan.
• You only need life insurance while your dependents are young.
• You need a low-cost solution. 
• You haven’t started investing or saving for retirement. 

Alternatives To Variable Life Insurance

Variable life insurance isn’t your only option when it comes to protecting your loved ones. Here are some other types of life insurance to consider.

Final Take: Is Variable Life Insurance Right for You?

Here’s a quick recap of variable life insurance:

• Lifetime coverage with the potential to grow cash value through investments.
• Higher risk, fees and complexity compared to other types of policies.
• Often best suited for high-net-worth individuals or those with long-term financial plans.

A variable life insurance policy only makes sense if you have a more complex financial situation and need a policy to cover your entire lifetime. It could be the right fit for high-income earners and retirees looking for ways to pass on wealth to the next generation.

It’s always a good idea to discuss the next steps with a financial planner and decide whether variable life insurance or a simpler option — like term or universal life insurance — is the best call. 

Sarah Sharkey contributed to the reporting for this article.

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