I hope this post doesn’t end up on one of my favorite blogs, Bad Money Advice, but I wanted to actually compare some numbers for people. Everyone, and I mean everyone tells you to stay the hell away from Whole Life Insurance, I think the main concerns are fees, lack of clarity, and evil insurance companies only offer these products cause people are stupid and insurance salesmen can sell anything.
I do not think Whole Life is for everyone. I don’t own Whole Life Insurance, nor have I ever sold it…but I don’t believe it is evil! If you are cash strapped and are aware that you need that million dollar death benefit then Whole Life isn’t likely to make sense. But, I also truly believe most people DO NOT “invest the difference.”
For one, unless you had illustrations ran you don’t have a clue what the difference is!
For another, if everyone was actively investing the difference then this country’s middle class probably wouldn’t be in the position it is today. But I digress, if you want to read some great arguments against whole life insurance here are a few posts that are coherent and actually make some sense:
- How Much Life Insurance Should You Buy? from Cash Money Life
- How to save Money on Life Insurance? from Five Cent Nickel
- Further Thoughts on Life Insurance? PT Money
That being said, want a great article written by yours truly giving some “outside of the box” reasons to buy whole life insurance than check out my guest post on Cash Money Life
If Whole Life Insurance provided no utility then it wouldn’t exist. I am not going to discuss the need for life insurance in this post, rather I just want to compare dollars of buying a whole life policy vs. buying term and investing the difference.
Variables used:
- My Birthday – I am a 28 year old Male.
- I am assuming I am super preferred (2nd highest – cause no way I am not ultra, the highest).
- I am using a Triple A rated company, because that is the illustration program I have access to at 11:45pm at home on my couch
- We are only spending $1,000/year.
- Outside Investments grow at 5% Net and we are going to roll everything back into the investment
- I am buying 20 year level term OR a straight whole life policy nothing fancy on either side.
Example: Math on Whole Life Insurance vs Buy Term and Invest the Difference
20 Year Term and Invest the Difference
As explained before $1,000 buys $115,000 Death Benefit so that will be what we are solving for in the 20 year Term. To buy 20 year term for $115,000 we are looking at $161/year, so we will be reinvesting $839.
| Year | BOY Invested | Growth @ 5% | Additions | EOY Balance | Death Benefit |
| 1 | $839.00 | $41.95 | $0.00 | $880.95 | $115,000.00 |
| 2 | $880.95 | $44.05 | $839.00 | $1,764.00 | $115,000.00 |
| 3 | $1,764.00 | $88.20 | $839.00 | $2,691.20 | $115,000.00 |
| 4 | $2,691.20 | $134.56 | $839.00 | $3,664.76 | $115,000.00 |
| 5 | $3,664.76 | $183.24 | $839.00 | $4,687.00 | $115,000.00 |
| 6 | $4,687.00 | $234.35 | $839.00 | $5,760.34 | $115,000.00 |
| 7 | $5,760.34 | $288.02 | $839.00 | $6,887.36 | $115,000.00 |
| 8 | $6,887.36 | $344.37 | $839.00 | $8,070.73 | $115,000.00 |
| 9 | $8,070.73 | $403.54 | $839.00 | $9,313.27 | $115,000.00 |
| 10 | $9,313.27 | $465.66 | $839.00 | $10,617.93 | $115,000.00 |
| 11 | $10,617.93 | $530.90 | $839.00 | $11,987.83 | $115,000.00 |
| 12 | $11,987.83 | $599.39 | $839.00 | $13,426.22 | $115,000.00 |
| 13 | $13,426.22 | $671.31 | $839.00 | $14,936.53 | $115,000.00 |
| 14 | $14,936.53 | $746.83 | $839.00 | $16,522.36 | $115,000.00 |
| 15 | $16,522.36 | $826.12 | $839.00 | $18,187.47 | $115,000.00 |
| 16 | $18,187.47 | $909.37 | $839.00 | $19,935.85 | $115,000.00 |
| 17 | $19,935.85 | $996.79 | $839.00 | $21,771.64 | $115,000.00 |
| 18 | $21,771.64 | $1,088.58 | $839.00 | $23,699.22 | $115,000.00 |
| 19 | $23,699.22 | $1,184.96 | $839.00 | $25,723.18 | $115,000.00 |
| 20 | $25,723.18 | $1,286.16 | $839.00 | $27,848.34 | $115,000.00 |
| 21 | $27,848.34 | $1,392.42 | $839.00 | $30,079.76 | $0.00 |
Alright, not too shabby we have protected our family for 20 years and have a net of $28,000ish. A great option for a lot of people. At the 21st year you will not have insurance, so you have zero options.
Whole Life Insurance
| Year | Guaranteed Cash Value | Death Benefit | Non Guaranteed Cash | Non Guaranteed Death Benefit |
| 1 | $0.00 | $115,000.00 | $0.00 | $115,000.00 |
| 2 | $7.00 | $115,000.00 | ||
| 3 | $955.00 | $115,000.00 | ||
| 4 | $1,942.00 | $115,000.00 | ||
| 5 | $2,969.00 | $115,000.00 | $3,140.00 | $116,723.00 |
| 6 | $4,038.00 | $115,000.00 | ||
| 7 | $5,146.00 | $115,000.00 | ||
| 8 | $6,297.00 | $115,000.00 | ||
| 9 | $7,488.00 | $115,000.00 | ||
| 10 | $8,720.00 | $115,000.00 | $9,543.00 | $119,372.00 |
| 11 | $9,872.00 | $115,000.00 | ||
| 12 | $11,061.00 | $115,000.00 | ||
| 13 | $12,286.00 | $115,000.00 | ||
| 14 | $13,549.00 | $115,000.00 | ||
| 15 | $14,847.00 | $115,000.00 | $17,028.00 | $123,711.00 |
| 16 | $16,180.00 | $115,000.00 | ||
| 17 | $17,545.00 | $115,000.00 | ||
| 18 | $18,941.00 | $115,000.00 | ||
| 19 | $20,373.00 | $115,000.00 | ||
| 20 | $21,841.00 | $115,000.00 | $28,251.00 | $135,416.00 |
| 21 | $23,356.00 | $115,000.00 | $31,111.00 | $138,764.00 |
At the 21st year you have a bunch of different options – you can take a loan against some or all of the cash, you can withdraw the cash and collapse (may have tax ramifications), you can take a paid up addition and use the cash to buy a life insurance policy as a legacy and not add another dime to it.
I think one should make their own conclusions from the comparisons, to determine whether the positives of whole life outweigh the couple thousand difference on the guaranteed side (the non-guarantees at current dividend rate end up higher than that of term and invest the difference so that is a non-issue)?
More important than the numbers above, is the message that the norm doesn’t always provide a full picture of what is going on.
UPDATE:
As indicated in the comments below, Weakonomist made some points that I had used a return rate that was way too low. As I thought I indicated above, the reason I used 5% was for safety of muni-bonds vs. a guarantee from a triple A rated company. Below is the table of a 8% net vs. non-guarantee side of the whole life policy (instead of excess increasing the Death Benefit I threw it into cash since that is likely what a client would do if he or she is trying to increase, well…cash value):
| Year | EOY Balance | Non-Guarantee Cash Value |
| 1 | $906.12 | $0.00 |
| 2 | $1,817.61 | |
| 3 | $2,802.02 | |
| 4 | $3,865.18 | |
| 5 | $5,013.39 | $3,140.00 |
| 6 | $6,253.47 | |
| 7 | $7,592.74 | |
| 8 | $9,039.16 | |
| 9 | $10,601.30 | |
| 10 | $12,288.40 | $9,543.00 |
| 11 | $14,110.47 | |
| 12 | $16,078.31 | |
| 13 | $18,203.57 | |
| 14 | $20,498.86 | |
| 15 | $22,977.77 | $17,028.00 |
| 16 | $25,654.99 | |
| 17 | $28,546.39 | |
| 18 | $31,669.10 | |
| 19 | $35,041.63 | |
| 20 | $38,683.96 | $28,251.00 |
| 21 | $42,617.67 | $31,111.00 |
I never claimed that whole life would beat anything, what I did say was that it isn’t as bad as everyone makes it out to be. At 5% return, it is close, with added flexibility, but if you are ‘planning’ on getting 8% NET (post fees and taxes) then invest the difference, if you do it, will come out ahead.
Again, everything written above is moot if you have a need for income replacement of $1,000,000 and you can only afford $750,000 10 year term…then we have a different problem.
The singular problem is that you assume a 5% return. Insurance companies would go under if they made so little. Rerun the numbers assummin 8, 10, and 12% and show how it turns out.
The assumption that if a product offered no utility it wouldn’t exist isn’t right. It exists because it’s a high profit prodct that salesmen can sell with ease. It’s why loaded mutual funds, $100 brokerage fees, and the Chrysler Sebring still exist.
Weakonomist,
You are 100% Correct if I used 8/10/12 the outside investing would destroy the product, it even "won" out on the guaranteed side. I used 5% cause that is what I figured a muni-bond fund would return in net numbers.
I think you may be confused, this had nothing to do with how the Insurance company is investing it, but how a person (i.e. me or you) would invest it if we were to buy term and invest the difference.
There is no confusion, the investment returns an independent would get would be higher than the insurance company. You can’t assume merely 5% when most people would invest in stocks over a 20 year horizon. Your math is right, but using 5% stacks the results in the favor of your argument, and it was merely based on the assumption of one person with no justification for that assumption.
As far as the utility issue, which I assume has to be secondary – I truly believe the market will determine what products are out there. Loaded Mutual funds provide some good to some people, e.g. people who don't want to read your blog, or others like, to learn about what they are investing in. As far as the Sebring, the mother in law has one, she loves it! Not sure why….but she does and that is her utility.
I know A LOT of insurance salesmen and whole IS NOT the easiest product to sell, because of obvious cost restrictions, and whether it is high profit or not I have never really seen the books of an insurance company but I can bet since industry pay out on a term policy is 2% then there is a hell of a lot of profit going on with term.
If you are investing the rest, aren't you doing it into a safe muni-bond fun, money market etc.? Maybe not…but either way, I will update the post tonight to include Guaranteed/Non-Guaranteed Returns vs. 8/10/12.
I am not trying to sway anyone one way or another, I am not using this blog to sell life insurance. I am simply asking the question would you trade $5,000 over the course of 20 years to have more options in the 21st year?
One Question. What happens to the cash value component when the insured dies ?
The cash value is generally lower than death benefit, and disappears upon death, but the family has the higher death benefit.
I think that answers your questions.
.-= Evan´s last blog ..Obama Wants your Tax Opinion! Are you Freaking Serious? =-.
Whole Life vs Equity investments
Facts
1.It’s given that Income Taxes will be increasing in all our lifetimes going forward.
2. Retirement planning must include safety of principal and guaranteed growth instruments.
3. Tax free distributions are golden at retirement with all the tax we will be expected to pay.
4. If you become permenantly disabled , “can you still contribute and achieve your retirement goals”? No work no income, Right?
5.What has the equity market’s contributed to American investers bucket’s from 1998 to 2009? about ZERO.
Whole life, “complimenting a sensible equity retirement investment”,will result in the following benefits:
A)as good or faster growth
B)guaranteed retirement vs non guaranteed
C)Death benefit(much higer than values vs no death benefit (only non guaranteed account)
(Remember love for family should be based on guarantees, and not end upon your death!)
D)Distributions are TAX FREE vs Taxable distributions at Marginal Tax rates of North of 40%. Wow what a chunk.
E)Upon permanent disibility(Whole life with waiver of premium) contributions continue for life(full anticipated cash accumulation and death benefit) vs Zero contribution ability(no work no income)results in very vulnerable retirement and death protection for your loved ones.
F) If equity markets fail you especially years before retirement like many have experienced…your hedge or “saving grace” will be the whole life….Not the equity.
If the market does well…woudn’t it be great to have both buckets filled…meeting your retirement goals?
In conclusion…if you love someone,not just yourself, and can understand that the words safety, guarantees, predictability are synonymous with the word Love, have a respectable, honest, and knowledgable Advisor show you how this is done.
Wow, that is a mouthful! Thanks for adding
Thanks EVan
I place much high dividend whole life ins to dentists and small business owners
Who already have other equity planning in place
Remember it is not meant to replace other accumulation planning but only add to existing planning by oFfering all the benefits I mentioned above that u don’t get with equity investments as a stand alone.
Most of all the term I sell,with the exception of larger business term policies, are to folks who are not educated in retirement planning andwwlll say they will invest the rest but never do it
Hopefully this message comes with only few typos
From my blackberry phone. SOrry
Just for fun I ran some quick numbers with a AAA rated mutual insurance company. I used the same set up as you: $115k DB, $12k/yr premium, male, 28, second best rating. At the end of year 21 it is projected to have $38,501.76 in cash value and $186,659.90 in death benefit. The key to these policies is the funding. Most insurance people don’t truly understand how to properly fund a policy.
As for the investment account, there’s a couple of huge unknowns. Such as what rate of return you’ll actually get over the 20 years. Also taxes. Why aren’t taxes taken into account? This strategy isn’t for everyone and it isn’t targeted to the guy that is trying to put $1,000 into his Roth IRA. For more advanced people it can really sing.
You forgot one more cost of term insurance, opportunity cost.
I am sure if I ran the same illustration right now, I would get a different result. Taxes are taken into account indirectly, by using a Net return.
I think you’d like my post on using a whole life product to create an income stream:
http://myjourneytomillions.com/articles/create-your-own-pension-using-whole-life-insurance/
You are 100% correct this is not for the guy putting $1,000/yr into his Roth IRA! But I hate those standard gems, like whole life is a worthless prodcut.
In your buy term and invest the difference chart you show the first year that you invest 839 dollars. The second year you show that growing to 880.95. However, you forgot to add in a second year’s investment of another $839.
The 2nd Year’s 839 is in under the Additions Column so the total of the 2nd year is under EOY (End of Year) balance. I hope that helps out.
I would have to say that there are still many missing elements.
-if you start a family late in life ie mid to late 30s you are going to have to buy additional term in your early 60s or 50s and it will cost you quite a bit.
-if you buy for your children early in life you can borrow against it for college in addition, if you have girls and they marry an idiot they will have something to fall back on
-it is a great investment if you have maxed out your other qualified and non qualified plans
-borrow against and pay yourself back how can you go wrong
-if you stick with a firm like northwesterm mutual you will do great.
What calculator did you use to run the illustration? I’m looking for a free one to use.
I didn’t use a calculator I used an illustration system. I think you need to contact your insurance broker (or maybe the home office) of a life insurance company.
The biggest problem for the average family is that at the cost of whole life they cannot afford the amount of coverage they really need to replace the income of the breadwinner in the family. Higher coverage equals higher monthly outlay.
The amount of coverage is the 1000% the most important thing! Absolutely agree. I’d rather see someone who needs $1mil in coverage have $1mil of term than $100K of whole life.
Any insurance salesman or financial planner says otherwise sucks at his or her job.