Today I have another guest post up at Bible Money Matters titled Term, Whole And Variable Life Insurance. Which Type Of Life Insurance Should I Buy? The choice is complex and the decision, not so black and white. Take a read and let me know how you’ve made your decision.
Joe
Joe – Term is clearly much cheaper, and a better option for those who DON’T have a lot of disposable income and haven’t maxed out all beneficial tax vehicles like the 401k.
I have seriously thought about Whole Life via my provider USAA, and the guaranteed 5% return on the cash component does sound good. However, I passed since the amount I wanted ($2mil) would take too much out of my cash flow.
Take the Term for 10-30 years if your company’s life insurance coverage isn’t enough, and hope you never have to use it!
“There are two main categories of life insurance, Term and Whole Life….”
Actually, the two main categories of life insurance are “term” and “permanent”. The distinction is not trivial and making a good decision about life insurance coverage requires that one understand this.
“Quite a bit more complicated are Whole Life and its variants, namely, Traditional whole life, Universal life, and Variable life.”
There are two issues with this statement: first, Whole Life is no more complicated than term insurance. I’d argue that in many ways it is actually less so. Second, universal life is not a variant of whole life. Variable life is, but I’d wager dollars to donuts that you meant “variable universal life” because variable life (without the “universal” part) is not very popular these days.
“…but in return you get dividends which can be used…”
Sometimes. a “Participating Whole Life” policy will pay dividends, and “Non-Par” policy will not. Regardless, both par and non-par whole life will accumulate cash value.
“The investment vehicle is hidden from the customer, and the insurance company announces the return each year, with a minimum usually set.”
Well, for a non-par WL policy, this statement is just incorrect. The “returns” in a non-par WL policy are contractually guaranteed. In a par WL policy, there are contractually guaranteed returns as well, and then the non-guaranteed dividends come on top of that. You are correct that the insurance company sets the dividend rate each year, but there is no minimum for this.
“Universal life differs slightly in how the premiums payments are capped and how returns are calculated.”
Universal life differs significantly from whole life. With WL, you have contractually guaranteed premiums. In a UL policy, you have flexible premiums. This comes at the cost of also allowing the insurance company to vary (within a contractually guaranteed RANGE) the “cost of insurance” (COI).
“One variation of universal is a Single Premium policy…”
There is too much wrong with this entire paragraph to even cover here and really begs a more comprehensive discussion.
“The Whole life policies do offer features that term cannot provide such as the ability to borrow money back at a low interest rate. But, of course, this is your own money you are borrowing.”
NO! You are not “borrowing your own money back”. This is simply not true, despite the fact that Suze Orman and Dave Ramsey claim it to be so. If you take a policy loan, you are borrowing the insurance company’s money and using the CASH SURRENDER VALUE of your policy as collateral for the loan. It’s the same as if you were to deposit $10,000 in a savings account at the bank, and then go get loan from the bank pledging that savings account to secure the loan.
“…buy term and invest the difference continues to remain the superior choice.”
What difference? Term insurance and permanent insurance are entirely different things. You don’t say “buy a bicycle instead of a car” and invest the difference because a bicycle and a car, while both being modes of transportation, serve different purposes. It’s the same with term and permanent insurance.
I appreciate the comment. As I mentioned in the email I sent you, I fact-checked my data before making any statements about any of these choices, finding multiple sources for each description as I was writing.
Of course I understand that term and permanent are very different, which would prompt my asking why are so many permanent policies sold to people who pick up the phone looking to buy a term policy? “The difference” is the choice to buy term, and save whatever money extra you’d spend by choosing one of the alternatives. That saving should be invested in lower expense choices.
It’s clear I hit a nerve, same as any time I post on Variable Annuities.
Joe,
No, you didn’t “hit a nerve”. And I believe that you did fact check your data, but your sources are incorrect in so far as the errors that I mentioned. It’s not surprising; there is a great deal of misinformation available regarding life insurance.
Regarding your question about “why so many permanent policies are sold…” I suspect there are two answers:
1. Commission rates, while actually lower (in general) for permanent insurance, are based on the premiums, and permanent policies have higher premiums. So some insurance sales people sell to maximize there sales commission.
2. Sometimes a consumer thinks they want a term policy, but they really want/need a permanent policy. True story: a few weeks back I was doing some home improvement (not my forte, just ask my wife!) and I spent an hour or three online researching a particular tool for part of the job. I went in to Home Depot to buy it and after talking to the HD guy, he convinced me that I had selected the wrong tool for the job. And he was right. Using the tool (tools actually) that he helped me buy was the right way to go.
And I understand the “difference” is in that choice, but the important thing to consider is that term is different than permanent. Thus, my example. I think everyone should buy what right for their situation, be it a bicycle, a car, term insurance, permanent insurance, some of both, whatever. For most people, that means a car, maybe a bicycle or two for the family and convertible term insurance. (Convertible term is like a license to buy/drive a car in the future that can’t be taken away.)
To address what you said directly though: “…save whatever money extra you’d spend by choosing one of the alternatives.”. I agree, but is a Ford Escort an “alternative” to a Mercedes? Maybe, maybe not.
Finally, regarding variable annuities, yes, that is another touchy subject. It’s a product that is mis-sold probably as often as it is derided by the Suze Orman’s of the world. It’s a misunderstood product, by consumers, by many of the people that sell them (very sad) and by the talking head money gurus on TV. VA’s, like every other financial product, have their place.
I just like to see an open, honest and accurate discussion about this stuff. That’s what benefits the consumer in the end.
True Joe. Whole is just a good way of “forced savings” for those who don’t have the discipline to do so themselves.
In my post I wrote “Given the ‘forced saving’ nature of this flavor of insurance, they appear best suited to someone who may not be disciplined enough to do this on their own and would otherwise find themselves with no real savings to speak of.” I think that’s an honest opinion. I think that 95% of my post (successful or not) attempted to state facts and not opinions. Only these two sentences seem to have crossed that line.
I once challenged any pro-VAer to send me the prospectus of a product so I could see how it would perform when back tested. When the starting period was before a huge run up of two decades, it underperformed badly. When it was before a bad period it also underperformed. In the end, I showed that whatever starting period was chosen, short term notes would have outperformed. The expenses to buy the guarantees wiped out any benefit. In finance, there ain’t no such thing as a free lunch. One trades risk for reward. If you have a prospectus for a product you recommend, I’m happy to review it.
For my guest post today, I was asked to compare the difference types of (life) insurance products. Had I written this for my own blog, I’d have been more pro-term and anti everything else.
I’d be interested in reading your analysis of the variable annuity with the living benefits. Do you have it available?
It’s at http://www.joetaxpayer.com/annuity4.html
@ TJ
Yes, you are technically correct in that the 2 main categories of life insurance are in fact term and permanent and not term and whole life. Whole life happens to be (at least over the years but not so much anymore) the most popular type of permanent life insurance but there are also many other variations of permanent life insurance like universal life, variable life, etc.
Joe – Question for you on annuities as well. Let’s say you were in your early 30’s, making $500,000/yr and have $500,000 in savings as well as various other investments.
Would you bother buying a couple hundred grand annuity for guaranteed income at this stage in your life? The tax free return of 4-5% sounds pretty good no?
I’d need to see the prospectus for the annuity. In general, the only annuities I like are immediate annuities bought much later in life. How is the return tax free?
Sounds good Joe. I thought the interest return for annuities was tax free? Otherwise, why would anybody spend so much for the guaranteed income if they could just keep their money in a similar interest baring CD? Maybe I was mislead by the USAA annuity agent and confusing the whole life tax free interest return.
Let’s say you buy a $500,000 annuity, and then you die in 5 years, what happens to the $500,000? Does it just get passed down to a designated beneficiary, or does goodness forbid, the insurance company keep all your money? I can’t imagine so.
“Annuity” is too broad a word. It’s not one product. The immediate annuities I am familiar with are structured so you buy them at a certain age, say 65. You get a much higher than market return, but no guarantee of principal, i.e. if you die, that’s it, no money. Some portion of the payout each year is considered return of principal and isn’t taxed. Other flavors offer a guarantee, 5 yr, 10 yr, etc, so at least if you die soon, your beneficiaries get something. As I said, you need to study the prospectus of any annuity you are considering.
I think the problem arises when people don’t know they have a permanent need:
– Buy/Sells
– Children with Special Needs
– Estate Liquidity Issues
– Illiquid Assets and Surviving spouse who has no idea how to run them or will sell at a fire sale
Joe what do you think of my calculations on buying term and investing the difference?
http://www.myjourneytomillions.com/articles/give-whole-life-insurance-a-fair-comparison-get-illustrations-and-compare/
I think the buy term and invest the difference mantra is crap for 2 reasons – (1) almost no one does it lol and (2) how do most people know what the difference is?
Yes, I think that numbers can be manipulated to show what one wants. When you look at the underlying expenses in whole life, the money adds up over time, huge numbers over a long period. I am a believer in using the lowest cost Index funds to minimize expenses, and avoid listening to how the 2%-3%/yr is buying me some kind of guarantee.
It all depends on what the client needs. Term is attractive but when the term ends, then what? If they still need coverage they might not be able to afford the amount they need since they are now 20 or 30 years older. Say someone buys a 30 year term policy at age 35. Come age 65 their premiums will be much higher. Some folks may not need coverage anymore or may just need a burial policy. But for those who need a considerable amount will be in for a shock. They’ll then come with that “My agent didn’t telle me….”
You should always compare quotes online before you Buy Term Life Insurance. There are many different insurance companies, with very different rates. I would encourage you to visit this website http://insurancetop.blogspot.com/