Whole Life Insurance is an ongoing topic that I have discussed many times through my time working with clients. It can be really complicated. There are lots of hooks and pitfalls to avoid. It is usually not a great product for most people. In fact, I have only seen it appropriate in two clients over my entire career. However, insurance agents often treat it as a fix-all for most buyers. Let me explain how it works.
How it Works
Whole life insurance is basically the counterpart to term life insurance. Unlike term insurance that only lasts for a designated period of time (e.g. 15 years, 20 years, 30 years, etc.), whole life insurance lasts for your whole life. Really clever, huh?
So if you purchase a whole life insurance policy you will have it until you die.
You make payments on your policy and you get more than life insurance though. You will build up a cash value inside your policy as time goes on that you can use to borrow against later if you were to choose so. But, it is important to remember that if you decide to borrow against your cash value inside your policy, that you will have to pay interest on that loan.
Yes, you build up a cash value. Then you have to pay interest to borrow your own money. It’s really stupid.
The nice thing about whole life insurance, as compared to term, is that you have it for your entire life.
If you get a term policy at age 30 that is supposed to last for 30 years (until age 60) and at the end of those 30 years, you still need insurance, you will have to buy another policy. And since you are much older, that policy will be much more expensive.
But if you have whole life insurance, you lock in the price of the policy at the beginning. Your premiums will never change until you die.
Whole Life Insurance is EXPENSIVE
There are several cons about whole life insurance. But at the forefront of them is the high costs for the coverage.
Typically, a whole life insurance policy will cost 10-12x what a term policy costs. Whoa.
But you might be thinking, “Doug, that is because it goes for your whole life. Not just a defined amount of time. Of course it will be more expensive.”
And yes, that is partially true. But 10x-12x? Not on your life. (Pun intended.)
If you pay 10-12x as much, then you should have that much more coverage or have it go for 10-12x as long. But who needs a 300 year policy?
For example, a 30 year-old man can get term coverage of $500,000 for 30 years for about $30 per month.
That same $500,000 in coverage with a whole life policy will cost him about $360 per month.
Just get the term. Don’t mess with the whole life insurance.
Insurance is made to transfer risk to someone else, not to invest or build up cash value.
Cash Value Accumulation
The biggest selling point that insurance salesmen use for selling whole life insurance products is the cash value accumulation.
Yes, it is true that whole life insurance policies will accumulate cash value over time. However, it is not the bed of roses that a life insurance salesperson would have you believe.
First of all, in nearly all cases, it will take you 2-5 years before ANY cash value has been built.
This is because the premiums that you pay at the beginning of the policy have to go to pay the commissions to the person who sold it to you as well as the high operating expenses associated with having the policy.
So you don’t get ANY cash value for the first 2-5 years AND you pay 10-12x for the policy.
That is not a good deal.
And here is the real kicker.
Even when you do start to earn cash value. It is only at an average interest rate of 1.5-2.0%
That sucks. There is no way around it.
Let’s compare that to a term policy.
A 30 year-old man is thinking about getting a $500,000 30 year term policy or whole policy.
The term policy will cost $30/month while the whole life policy will cost $360/month.
At the end of the 30 years, he no cash value in the term insurance policy because the policy is now expired. But he does have about $163,000 in cash value in the whole life policy.
Sounds good, right? Not so fast.
If he would have just taken the difference in premiums $360 – $30 = $330 and invested that amount in a broad based, low risk S&P 500 ETF he would have $713,000!
Yes, he would no longer have the death benefit. But he would have $713,000 in cash instead. Even with not having the death benefit, that is a much better deal.
*This assumes the average 30-year S&P 500 return of 9.79%
What Happens When You Die With a Whole Life Insurance Policy?
This is the biggest kick in the pants of this product.
When you die, your beneficiaries get your death benefit but NONE of the cash value.
This means that you may have worked your whole life and saved up hundreds of thousands of dollars in your cash value account. But your family will not get it. They will ONLY get your death benefit. The life insurance company gets the cash value.
And yes, if you were to have a term insurance policy, and it expires, your beneficiaries would get nothing either. But insurance is made to transfer risk. Not to earn money from.
Insurance is NOT an investment. The only people who say that it is an investment are those who do not have a securities license and are a fiduciary.
Final Thoughts
Here is the bottom line.
Life insurance is not an investment. There is no need to get a whole life policy to accumulate cash value, because if you buy term insurance and invest what you would have spent on the equivalent whole life policy, then you would come out WAY ahead.
And life insurance is made to transfer the risk that your family would lose your income in the event of your death. You need to be building up your army of dollars and investments over time so that when your term insurance runs out then your family would still be protected.
If you are looking for a life insurance product to protect your family, be very careful with what salesperson you go with.
I have only seen a couple times in my entire career, a situation where it was appropriate for someone to purchase a whole life insurance policy.
I am here for you!
You can do this!
Until next time!
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