Is variable life insurance expensive? Maybe, maybe not. Let’s approach this objectively. Variable life comes in two basic flavors: variable whole life and the much more prevalent variable universal life. There’s a private placement life insurance, which is a version of VUL, but not the focus of today’s discussion. Other types of insurance include non-variable WL and UL. Besides VUL, there’s traditional, current assumption universal life, guaranteed universal life and indexed universal life, along with iterations of each.
When it comes to life insurance expenses, how are the respective policies built? What are the assumptions that have been plugged in? Over what time horizon? At what funding level? Why do all of these variables matter?
There are also various ways to define what constitutes an expense. Do we look at gross policy expenses? The return on one transaction against another? The spread between the gross crediting rate and the net return on the deal? We can look at different tests, but we can’t pick and choose to benefit our own horse.
Many Design Options
The same product from the same insurance company on the same individual can be built very differently, with a huge variation in policy expenses. Let’s use a 45-year-old healthy male as our subject today. I can find a $10 million GUL policy with an annual premium of $70,000 to guarantee the death benefit for life. I can also build a $10 million VUL policy that accepts over $600,000 annually. The first one results in a $10 million death benefit, and the latter projects to grow to hundreds of millions of death benefit, even at a historically modest return. Clearly, these aren’t the same, but how? It might seem like a silly question, but which one costs more? Are we focusing on cash flow or internal expenses? Raw internal expenses or as a percentage of the death benefit?
Policy Expenses
What about those expenses? In one product built a specific way, $70,000 annually into a $10 million level death benefit VUL shows cumulative policy expenses at age 100 of over $14 million. Add just $2,000 to the annual premium of the very same policy, and the cumulative policy expenses get cut to $7.3 million. Taking the same premium and applying it to the same product with an initial death benefit of $2 million, it projects to grow to $20-30 million or more in death benefit at the same return, resulting in a cumulative expense of only $1.2 million. If I started with a $10 million death benefit and jammed in $374,000 of annual premium, the death benefit would grow to $100-$200 million, with $5.4 million in policy expenses.
The takeaway? There’s no answer to what a variable life policy, or any policy, “costs.” Remember, this is the exact product on the same individual, and $10 million of death benefit could have $14 million in expenses and $200 million of death benefit could have a third of that. It doesn’t seem like anyone could make a categorical statement about how expensive the policy is. I could show you anything to deliver a particular message. I could make one product reflect much higher expenses and then turn around and show you exactly the opposite, whether they’re in the same product universe or different.
Is the $70,000 premium policy less expensive than the $72,000 premium policy when they both project $10 million in death benefit? If the “more expensive” $72,000 policy results in a reduction of millions of dollars of internal policy expenses, does that make it less expensive?
Other Types of Insurance
How does VUL stack up against GUL, CAUL and IUL? Running the projections similarly results in expenses in the same ballpark for each. I’m not sure that should be a surprise. Each product has a different objective or crediting methodology, but there’s a lot of horse trading. For example, one has guarantees but gives up cash value. The premiums are all similar, with some offering more upside potential at the expense of fewer guarantees. There’s no reason the expenses should be substantively different.
At least with UL policies, I can click a box in the illustration system to include the policy expense page that shows the various expenses and crediting on an annual basis. WL doesn’t allow this. It’s a black box product that you can’t see in to. If that’s the case, how can someone say VUL is more expensive than WL?
What About WL?
Regarding WL, I can run it in the software as 100% base WL or with a 50% term blend. The premiums, death benefits, and rates of return will differ. The lower premium version also has a lower rate of return on premium to death benefit. Does that mean it’s more or less expensive? I can use various dividend options. The different options result in different returns on premium-to-death benefit, but that’s not necessarily tied to basic policy expenses and mortality charges. Does a lower return on a particular setup make it more expensive if the policy expenses are the same?
Looking at one of the major mutual carriers, $10 million of WL has a premium two to three times that of VUL, even guaranteed VUL for the same death benefit. It certainly projects to grow a lot over the insured’s life, but so does VUL funded the same. In fact, I’d have to assume only a 5% return in the variable UL to result in a projected death benefit to equal the WL projected death benefit. At 7% the variable UL is running circles around it. At 10%, aggressive admittedly, the death benefit projects four to eight times that of the WL.
How can VUL be considered not only expensive, but more expensive than fixed insurance?
Guarantees
What about guarantees? Products with guarantees generally cost more than those without. An F250 is more expensive than a minivan, but I need to haul a 14,000-pound dump trailer, so that’s irrelevant, isn’t it? The point is, what am I trying to accomplish? If the S&P 500 did the same over the next 50 years as it did over the past 50 years, the projected death benefit of a VUL policy would grow like a bad weed. If it costs more for that opportunity (it doesn’t), would it be worth it?
If I put the same WL premium into a guaranteed VUL policy, at 7%/8%/9%, it’ll end up with a much higher death benefit, and it’ll likely end up with a lower death benefit if it performs at guarantees and the WL doesn’t. It only takes 6% for the VUL and WL projections to equal each other. Which one do I base my expense calculations on? Is one riskier than the other? They both have a $10 million death benefit guarantee. If I run both products at their respective guarantees and focus on the death benefit, the variable UL will have a much lower premium to guarantee the $10 million than the WL policy. Does that mean it’s cheaper? Is it fair to compare them this way?
WL is historically thought to be more conservative, but think about this: Are you more likely to trust a 6% crediting rate for a product invested in the general account of an insurance company that’s primarily in investment-grade bonds or a 6% long-term return in the equities stock market?
There are numerous ways to slice and dice and analyze this. Anything can be made to look more or less expensive, but you can’t escape the fact that VUL, guaranteed or not, isn’t an expensive product.
Policy Expenses vs. Investment Expenses
What many refer to when they say variable life insurance is expensive may be the sub-account expenses in securities-based variable life products. Rather than go into the general account of the insurance company, premiums and cash value are placed in sub-accounts chosen by the policy owner. This is similar to selecting funds in an Internal Revenue Code Section 401(k) plan. Any given variable policy will likely have scores of sub-account options. Many sub-accounts have exceedingly low charges, including S&P 500 accounts with charges as low as 10 basis points. If someone chooses to use a different sub-account with meaningfully higher expenses, it’s because they’re specifically trying to accomplish something, and this doesn’t have anything to do with the life insurance policy expense; it’s the investment expense. And it’s not like a WL company doesn’t incur expenses managing its own investments. Of course they do! They just don’t tell you what it is. Also, if the VUL policy is being used for accumulation, those assets elsewhere aren’t being managed for free.
Ultimately, variable life insurance can be structured to have policy expenses lower than those of most other types of life insurance. When someone says that variable life is expensive, it’s generally because they don’t understand it or don’t have the licensing to sell it.
