by Archie M. Richards, Jr., CFP^®
January 6, 2003

As a general rule, avoid permanent life insurance. But if you want such a policy anyway, use variable universal life. Here's an explanation:

Life insurance pays money after you die to the beneficiaries named in the policy. Insurance that applies only when you're unlikely to die is called "term" insurance. As the risk of dying grows, the premiums increase.

A policy that remains in effect no matter when you die is called "permanent" or "cash value" insurance. The premiums of these policies are considerably more expensive than those of term insurance, but they don't increase. A large part of each premium is invested as cash value. If you die at an advanced age, the death benefit is paid mostly from the cash value.

Universal means that you may vary the amount of the premiums, depending on whether you're flush or strapped for cash. Each year, the insurance company advises you of the limits. If you pay less than the minimum, the company cannot honor its guarantee of the death benefit you've specified. If you pay more than the maximum, the government doesn't consider the policy to be genuine life insurance and taxes at least part of the earnings.

Variable means that the cash value is invested in one or more mutual funds, including stock mutual funds. If you believe as I do that stocks should be an important part of an investment program, use variable life rather than an insurance policy that acquires bonds.

Here's how you'd be taxed on a variable universal life policy (and on any permanent life insurance policy):

1. The earnings remain untaxed as long as they remain in the policy.

2. The beneficiaries pay no income tax on the proceeds they receive after your death.

3. While you're living, you are not taxed on withdrawals from the policy up to the sum of the premiums paid.

4. Withdrawals in excess of the sum of the premiums are taxed at high rates as ordinary income, even though stock investments have been held long term. That's the bad news.

To withdraw from investments without paying ordinary income tax on the earnings, avoid permanent, cash value insurance. Buy stocks outside of an insurance policy and hold them for long periods to obtain low-taxed, long-term capital gains rates. (The rates are especially low if you hold for five years.) Cover your life insurance needs with 10-year term. The premiums remain level for ten years, rising for each successive 10-year period. During the years when you're expected to live, the premiums are remarkably low. At more advanced ages, your own investments serve as your cash value. Besides, after your children have flown the coop, you may not need life insurance at all.

But let's say you disagree with my approach. You want permanent life insurance that remains in effect no matter how long you live. You also want a mix of investments, including stocks and bonds. Variable universal life provides all of this in one neat little package. It's the best of a bad lot.

Don't allow yourself to be sold insurance by a major insurance company. Their insurance policies generally have high costs, including the cost of persuading you to buy. Instead, call The Ameritas Life Insurance Corp. (800-552-3553, www.Ameritas.com). The company offers a wide range of investments, including Vanguard mutual funds, for the cash value of its variable universal life policies.

No Ameritas salesman will call on you. You must take the initiative to contact the company, read the materials, discuss them over the phone, and send in your check. All of this cuts your costs substantially, giving you more bang for the buck.

If you want a life insurance policy that remains in effect no matter when you die and you also want stock investments in the same package, variable universal life is for you. Ameritas is a good place to obtain it.