Term versus Perm…
I’ve gotten a bit of flack for my past articles ending in “it depends” and similar sounding conclusions. I agree, that’s not super helpful. So today we switch things up, today we talk about something I’ve got a definite opinion on and I’m not going to leave shrouded in an ounce of mystery.
I’m talking about whole-life insurance. Also known as “permanent insurance”, “ordinary life”, and “straight life”. There are also variations such as “variable life” and universal life”, but I won’t get into those today. No matter what you call it, it’s ugly. Typically, it’s pitted against another product called term life insurance, a product that is so very similar, and yet so very different. Some of you have probably heard the greasy sales pitch and bought whole life insurance already, so this might sound pretty familiar to you. To make this fun, I’m going to split this into two sections, what they tell you, and what they don’t.
But first, some definitions. Both whole-life insurance and term-life insurance pay your loved ones (beneficiaries) a large amount of money in the event of your death. If you buy term life insurance, you pay a low monthly premium for 20-30 years or so, after which (if you’re still alive), the policy and monthly premiums end and you get nothing out of it. If you buy permanent life insurance, you pay a higher monthly premium, and (as the name suggests) you are covered permanently, if you keep paying premiums. As long as you pay those premiums up till your dying day, your beneficiaries will receive the stated death benefit. Additionally, part of the premium is invested and grows into a cash value that you can actually withdraw from.
If I was a whole life salesperson, here’s what I would tell you:
Premiums are invested and you can get them back! It’s like free life insurance!
It lasts your whole life, which means your beneficiaries will definitely receive the death benefit when you die. It’s like having full coverage on a car you know is going to crash.
It’s an “investment vehicle” which means even though you are buying life insurance, you’re also investing for the future, the old “two birds with one stone” idea.
It’s way better than term life insurance, which is essentially throwing your money away since you get nothing once the policy expires.
Sign right here, right now . . .
Doesn’t sound so bad now, does it? In fact, it sounds like the obvious choice! But there are a couple things that make it smell really bad. Let’s pop the shiny hood and see what’s underneath.
Here’s what I wouldn’t tell you:
The product has two goals (life insurance and investing), and it actually does a pretty bad job of both.
Premiums are much higher and get you less death benefit (compared to term insurance)
Funds are poorly invested, earning 1-3.5% on average (compare that to 10% on indexes…).
If you die before you use the cash value, the company just keeps it. It goes right into their pockets, like it’s no big deal.
Fees are assessed before the money is invested, so the compounding potential is absolutely guillotined.
Surrender charges / early cancellation fees (10-40%!). When you realize a couple years into owning a whole life policy that it’s a bad idea and you try to cut your losses, you get a special fee for cancelling it early. Lucky you. Or you’ll try to avoid the fee, keep the policy, and get further taken advantage of. One of those lose/lose situations.
Your agent gets a really fat check when you sign. This isn’t necessarily a bad thing since that’s how insurance agents make a living, but you have to understand the conflict of interests. An agent might sell you whole life insurance because it pays them well, not because it’s the best option for you!
It is an investment vehicle! A bad one. Cash values are usually tax-deferred, but contributions are not pre-tax. What does this mean? When you get paid, you pay taxes on your income. You then put that money into a whole-life policy, and the earnings on that money are also taxed. Our tax-adverse forefathers are rolling in their graves.
We’ve only scratched the surface. If you want to know all the little fees and fun tricks that are pulled, read the policy a little more critically, maybe use a magnifying glass. I submit to you the option of buying term and investing the money you save from the lower premium; the results are unbelievable. Worth considering at the very least.
As a financial advisor, I usually encourage people to keep their insurance and investing separated, things get messy when their paths cross. Trust me when I say there are other options for investing, options that don’t leave you confused and frustrated looking at red numbers.
Questions? Feedback? Have a whole-life policy?
brett@centennialsec.com or use the “Contact” tab above for feedback and questions.
