“These policies are ideal for long-term needs. They allow you to defer taxes until your death and beyond, protecting your estate and your beneficiaries. By borrowing against the value of the policy, you can create a dependable, tax-free income stream.” - Harry S. Dent, Jr.

Though variable annuities offer the investor some key advantages, the best of all worlds is a variable universal life insurance policy. Such policies allow you to defer taxes until your death or beyond, and if structured properly, also allow you to withdraw the income over your lifetime completely tax free.

Let’s take a look at this kind of investment vehicle in more detail. Variable Universal Life Insurance policies are considered “permanent” insurance that is ideal for long-term needs. They are “cash value policies” which means that you or your beneficiaries are guaranteed to receive the cash value of the policy. However, the cash value of such policies, as the name suggests, is variable rather than fixed. Variable universal life policies allow you to choose where to invest the policy’s funds with the result that you absorb the investment risk of the policy and also benefit from the potentially greater returns.

Like variable annuities , a key advantage of a variable universal life insurance policy is the control it gives you over your assets. You can take full advantage of the predictable seasons of the economy that HS Dent’s research has identified and choose the investments that will reliably and rapidly build your wealth. But we strongly urge you to work with a financial advisor to objectively allocate your assets, stay on top of your tolerance for risk, and to meet the legal requirements of these kinds of investments.

The biggest difference between variable annuities and variable universal life insurance is the ability to use it as a tax-free source of income. You can borrow from the cash or investment value of the portfolio inside the policy. The IRS doesn’t consider such transactions to be a taxable event. So, when you need income, the insurance company moves the portion you need from the higher-return equity investments to a fixed-income account. This creates predictable returns that you can then borrow against. In other words, the insurance company acts like a bank, loaning you money on the value of your collateral, which is the fixed-income investment. If you are able to borrow this money at the same rate that the investment is earning, you are only depleting your assets by the withdrawal amount. Furthermore, this “income” is tax-free.

How much income can you generate from a variable universal life insurance policy this way? The practical reality is that you can withdraw over 90% of its value. You simply need to leave a small portion behind to cover the actuarial costs.

The biggest downside to such a policy is that you cannot cancel it without paying a huge tax penalty. That’s because you would have to declare all of the investment income over the lifetime of the policy as ordinary income. But if you and your investment advisor know how to use variable universal life insurance, there is no reason you should have to cancel it, even if you need income.

The final advantage of variable universal life policies is that you can use them to leave substantial benefits to your heirs. They won’t pay taxes on the inheritance they receive and you will also avoid paying estate taxes. In fact, such policies are part of a systematic estate planning strategy , which we address elsewhere.