Sales of variable life insurance have been in the doldrums since before the dot-com bubble burst and the 9/11 terrorist attacks caused the stock market slide from which the United States is just now recovering. This applies to both single premium and flexible premium VLs.
At the same time, variable annuity sales have recovered to pretty much the level they were at before the stock market downturn, and fixed equity index annuities have enjoyed wide success in the marketplace.
By comparison, and particularly in view of the success of VAs and EIAs, the lack of utilization of single premium VL–or SPVL, as the industry calls it–is nothing less than amazing.
We only can speculate that the underutilization of VL, particularly SPVL, is due to a lack of understanding by members of the financial services industry about the unique features of the product. An SPVL insurance product affords virtually all the advantages of a VA plus it offers a number of advantages that cannot be obtained with a VA. The same types of advantages apply to the use of analogous life insurance products in lieu of equity index and traditional fixed annuity products.
An SPVL product is, in many ways, similar to a VA during the accumulation phase. Premiums can be allocated among a number of different types of investments, and reallocations can be made to reflect the policy owner’s risk tolerance.
Today’s VL and VA products offer investment alternatives that range from the very conservative to those that can be highly speculative. In addition, asset allocation programs, which can dampen risk, are available for most products. In short, the products provide a wide variety of investment options and great flexibility for changing options without any recognition of gain for the purposes of federal income tax.
As with VAs, the SPVLs are free from current federal income taxes on investment gains, unless there is distribution of contract values prior to death.
However, unlike VAs, distributions on the death of the SPVL contract owner or insured are totally free from federal income taxes, as these are life insurance proceeds. Moreover, SPVL distributions other than for the death of the insured are treated identically the same as distributions from a deferred VA. Thus, there is very little downside to SPVL ownership in comparison to ownership of a deferred VA.
When confronted with the choice between selling or purchasing an SPVL or a deferred VA, people often bring up the element of the cost for the “pure” insurance element inherent in the product. This “cost” is not present with a deferred VA.
This is a legitimate point. It is true that an SPVL can be slightly more expensive than a similar deferred VA. However, the cost is not really a significant amount.
Likewise, since we all need life insurance coverage, it is easy to look at the SPVL’s cost of insurance as being little more than the ownership of the same amount of term insurance with the premium being paid with pretax dollars–i.e., from the investment gain on the policy’s assets, rather than from the after-tax funds that would otherwise have to be used to pay term insurance premiums.
A similar analysis applies to equity index and straight fixed annuities. For both, an analogous life insurance product provides a better tax treatment than with the annuities and enables contract owners to profit from low-cost insurance coverage that is, in effect, paid for with pretax dollars.
But, you may ask, what about the ability to annuitize a deferred VA to get income that cannot be outlived? It’s an important point; we always are preaching about the need to include longevity concerns in everyone’s financial plans. What should be noted is, most SPVLs (or any types of life policies, for that matter) permit conversion of policy values to annuity payments. Even if an SPVL lacks such a provision, one can do a tax-free exchange of a life policy into an annuity (unfortunately, exchanges in the other direction are not possible under current tax law).
Therefore, if the SPVL’s policy values are needed to secure the policy owner’s longevity planning needs, an annuity payout program is always available.
A note of caution regarding converting a life policy to an annuity payout option: Annuity payouts are taxable, for the portion of the payout that is taxable, at ordinary income rates. This is a far cry from the life policy’s income tax-free distributions on death. Therefore, converting from a life policy to an annuity is not warranted unless absolutely necessary.
The SPVL is an ideal product to provide the flexibility necessary for financial planning, whether for retirement planning or to provide tax-free assets on death. Hopefully, the financial services community will do a better job of making the product available to clients.