Who Takes the Investment Risk in Variable Life Insurance?

Written by Hannah McCullough Insurance Researcher & Writer

That answer matters because variable life insurance combines a death benefit with investment options. The value is not a bank balance or a guaranteed savings account. It changes with the selected subaccounts, premiums, fees, and the policy’s terms, as the SEC Investor Bulletin on variable life insurance explains.

If you are weighing a policy, see your estimated rate in minutes only after you know which coverage amount and policy type you want to examine.

What is variable life insurance?

Variable life insurance is permanent life insurance with a cash-value account whose value can vary with the investment options you choose. Premiums may be reduced by charges before money is allocated, and the policy can offer a menu of portfolios that invest in securities. The SEC’s Investor Bulletin explains that cash value depends on premiums, fees, expenses, and investment performance. In practice, variable life policy mechanics mean the account value moves with premiums, fees, and whatever the selected subaccounts gain or lose.

Some policies also permit an allocation to a fixed account. That option is different from a mutual-fund-like investment option and has its own contract terms. Do not assume that one policy’s guarantees or allocation rules apply to another policy. The prospectus and policy contract control.

Because policy values can depend on securities, variable life is regulated under both insurance and federal securities frameworks. FINRA describes variable life as a security and says its investment return is not guaranteed. That status is a reason to read the prospectus, not proof that the product is right for a particular household. Because the return is not guaranteed, some buyers weigh the risk and cost against mutual funds before they decide.

Why does the policyowner bear the investment risk?

The policyowner bears the investment risk because the account is linked to investment options whose values can rise or fall. The insurer issues the insurance contract and may make specific guarantees under that contract, but it does not guarantee the performance of the separate-account investments.

The policyowner chooses or accepts the allocation and experiences the resulting gains or losses. FINRA’s product description distinguishes the insurer’s contract from the policyowner’s separate-account investment risk.

FINRA explains that a variable policy’s subaccounts invest in underlying fund portfolios and that their values fluctuate with investment experience. Its guidance also says a customer should be able to assume investment risk and understand adverse performance before buying. That is different from saying the insurer has no financial obligations. It still has the obligations stated in the contract, subject to the insurer’s claims-paying ability.

The practical question is whether the policy can support its charges while the insured still needs coverage. An investment loss can shrink the account that pays those charges. The policy may then need more premium, a different allocation, or another permitted action to stay in force. The exact trigger depends on the contract.

What happens when the investment options perform poorly?

Poor performance can lower cash value, leave less value after fees, and increase the chance that the policy will lapse if the account no longer covers policy charges. The SEC says that loans or poor investment performance may lower cash value, and insufficient value can cause a policy to lapse and terminate. The account can lose money directly, and charges, loans, or withdrawals can leave even less for future policy costs.

Here is a concrete illustration from the SEC’s Investor Bulletin. A policyowner puts $100,000 into a variable policy, allocating $50,000 to a bond fund and $50,000 to a stock fund. If the stock fund returns 10% and the bond fund returns 5% over a year, the account would be $107,500 before fees and expenses.

That is an illustration of arithmetic, not a forecast. A different market result, allocation, or fee schedule produces a different value.

A policy loan or withdrawal can make the problem worse. The SEC says loans reduce cash value, may reduce the death benefit, and increase the likelihood of a lapse. If a policy terminates with a loan outstanding, the loan may also create federal income-tax consequences. Tax treatment depends on the contract and the owner’s circumstances, so a tax adviser should review a policy-specific question.

Can the death benefit change too?

The answer depends on the death-benefit option and the policy terms. Some variable life policies provide a specified death benefit while premiums are paid as required or sufficient value remains to cover charges. Other policy designs can tie the amount payable to cash value or other contract features. A falling investment account can therefore matter to the death benefit, the policy’s ability to stay in force, or both.

Do not infer the result from an account screen or a sales illustration alone. Ask which death-benefit option applies, what is guaranteed, what assumptions are illustrated, and what happens after a loan, withdrawal, missed premium, or adverse market period. The SEC says the prospectus covers investment options, fees, death benefits, and other features, while the policy materials describe the insurance purchased.

How is this different from whole life insurance?

Whole life and variable life place different risks in front of the owner. NAIC explains that ordinary level-premium whole life keeps premiums the same and that nonparticipating whole life sets the premium, death benefit, and cash value at issue.

Those guarantees remain subject to the policy terms and the insurer’s claims-paying ability. Variable life places investment performance risk on the policyowner through selected investment options, while its charges and guarantees must be read from the specific contract.

This is a risk comparison, not a promise that either policy is always better. A person who needs permanent insurance and understands market risk may value variable life. A person who prioritizes predictable cash-value guarantees may prefer to examine whole life. Our comparison of variable life against whole life’s guarantees explains which policy values are fixed and which move with the market.

A person who needs temporary income protection may need to compare permanent products with term life instead. The right comparison starts with the insurance need, time horizon, budget, and tolerance for loss.

What should you read before choosing a variable policy?

Start with the prospectus and the insurance contract. The prospectus should explain the investment options and their expenses. The contract should explain premiums, charges, death-benefit provisions, loan and withdrawal rules, surrender terms, and lapse provisions. Ask for an illustration that shows the assumptions behind projected values, then ask what happens if returns are lower than illustrated.

• Ask how much of each premium is available for investment after charges.
• List every policy-level charge and every underlying-fund expense, including whether any charges change over time.
• Ask how a loan or withdrawal changes cash value, death benefit, interest, and lapse risk.
• Confirm which values are guaranteed and which are only illustrations or market-dependent values.
• Check that the person recommending the product is licensed for insurance and properly registered for any securities activity that applies.

FINRA’s guidance specifically calls attention to surrender charges, premium and cash-value charges, separate-account charges, underlying-fund fees, loan provisions, and lapse periods. Those details help you judge the policy’s ongoing cost instead of focusing only on an illustrated return.

Who is most likely to need a closer review?

Variable life deserves a closer review when the household needs a long-lasting death benefit but cannot reliably pay the premiums or absorb account losses. It also deserves scrutiny when the main goal is short-term saving, when a replacement would end an existing policy, or when the buyer cannot explain the charges and lapse conditions in plain language.

The SEC says substantial fees, expenses, and tax implications generally make variable life unsuitable as a short-term savings vehicle. FINRA also tells firms to consider a customer’s insurance need, ability to pay, investment objectives, experience, time horizon, and risk tolerance. Those are practical questions for a licensed professional, not a shortcut to an approval or rejection. Whether the investment risk is worth it comes down to those same practical factors rather than a single projected return.

What is the sensible next step?

Write down the coverage purpose, the years you need it, the premium you can sustain, and how much market loss you could tolerate without abandoning the policy. Then request the current prospectus, contract, charge schedule, and a policy-specific illustration. If the explanation depends on optimistic returns or vague “vanishing premium” language, pause and ask for the guaranteed values in writing.

For a nearby planning question, read our guide to the best term conversion feature. It explains a different way to move from temporary coverage toward permanent insurance, so you can compare the decision without assuming that investment risk belongs in every policy.

When you have a clear coverage amount and policy type to investigate, see your estimated rate in minutes. An estimate is a starting point, not a guarantee of approval or a final offer. A licensed life insurance professional can then explain how a specific policy’s charges, guarantees, and investment options fit your situation.