Why Whole Life Insurance is a Bad Investment

why whole life insurance is a bad investment

I recently wrote about the mistakes I initially made when purchasing life insurance policies for me and my wife. One of the things I mentioned was that at the very least I was relieved we had avoided being sold whole life insurance. A fellow blogger, my friend Edward Antrobus, responded with the following comment:

General consensus is that you shouldn’t view insurance as an investment. But nobody has ever been able to make a case for WHY.

It’s a great question. There are a lot of personal finance topics out there where you hear many people repeat the same mantra over and over again without any explanation as to why. Whole life insurance is one of those topics that often gets a bad rap without much detail. So today I’d like to detail the reasons why whole life insurance is a bad investment.

Some background on whole life insurance

I’ve written before about the importance of life insurance, how to determine your life insurance needs, and what type of life insurance to buy. I think life insurance is a crucial part of any family’s financial security.

When you buy life insurance, there are essentially two types: term and permanent. Term life insurance is very simple. You pay a (typically) small premium for financial protection that lasts a specific amount of time, typically 10-30 years. It is pure insurance. The only potential benefit is the payout upon death. In my opinion, this is the only type of life insurance that most young parents should consider, as the financial protection provided by the death benefit is the whole purpose of life insurance.

Permanent insurance comes in many different flavors, but the primary one is whole life. That is what we’ll be discussing here today, though the principles below apply to almost any form of permanent insurance. Whole life insurance does not have a term. It has a death benefit that lasts until you die, whenever that occurs. It also has a cash value component that grows over time, similar to a savings or investment account.

From a pure insurance standpoint, whole life is not useful for the vast majority of young people. It is MUCH more expensive than term (we’re talking like 10 times more expensive). Most people don’t need coverage for their entire life, as the primary purpose is to ensure that your children have the financial resources to get to independence. So as a pure insurance product, except for in a minority of cases that are the subject of another discussion, it doesn’t make a lot of sense.

But how it’s often sold to young people is as an investment. The benefits of the cash value component are made to sound very attractive, particularly as a retirement planning tool. It is this purpose of whole life insurance that I would like to deconstruct today.

So without further ado, here are 8 reasons why whole life insurance is a bad investment.

Reason #1: Whole life insurance is undiversified

Diversification is the practice of spreading your money out over many different types of types of investments and different types of companies. It’s the single tool you have that allows you to decrease your investment risk without decreasing your expected return. Unless you’re Warren Buffet, this isn’t something you should part with lightly.

Whole life insurance is by definition undiversified. You are investing a large amount of money with a single company and relying entirely on their goodwill to give you good returns. The insurance company will make their own investments and then decide what portion of their returns they would like to pass on to their policyholders. You are completely at their whim. If that one company goes bankrupt, has some bad years, or simply changes their outlook on paying out to customers, your return will suffer.

Putting a large amount of your eggs in this single basket exposes you to a large amount of risk from a single company and sacrifices the basic principle of diversification. This isn’t something that should be done without compensation in the form of large expected returns, and even then the risk would have to be very carefully evaluated.

Reason #2: Whole life returns are not guaranteed

Life insurance salesmen like to talk about the returns on their policies as if they are guaranteed. They are not. Neither are the returns from stocks or bonds, but don’t be misled into thinking that whole life insurance returns are somehow on a different level. The illustrations they present showing beautiful long-term growth are simply projections, and rosy ones at that since the company is trying to sell you. There is plenty of risk that the actual performance will be worse than what is shown during the sales process.

With that said, there is actually a small guaranteed return on these policies, but even this is incredibly misleading. In the policy that was attempted to be sold to me, the “guaranteed return” was stated as 4%. But when I actually ran the numbers, using their own growth chart for the guaranteed portion of my cash value, after 40 years the annual return only amounted to 0.74%. There are a number of explanations for this difference, including fees and the way in which the interest rate is applied. In any case, do not take that guaranteed return at face value. It is incredibly deceptive. Run the numbers for yourself and see if you’re happy with the result. The reality is that you can get better guaranteed returns from a CD that locks up your money for a shorter period of time and is FDIC insured.

Reason #3: Positive returns take a long time to appear

In the rosy illustrations, beyond the guaranteed portion mentioned above, a policy that’s held for 40 years or so will show a return of around 4%. That’s not bad, although 10-year Treasury Bonds have historically returned 5.4%. The problem is that it takes a long time for the returns to reach that level. There will be many years at the start of the policy where your return will be negative, and many more years where the return will be only slightly positive. If you stick with it for a long time, you eventually get into a reasonable range of returns, but if at any point before that you decide you want to do something different, you will have spent many years and a lot of money getting very poor returns.

Keep in mind that this is very different from the possibility of poor returns from stocks and bonds. While stocks and bonds guarantee nothing and certainly might show poor performance over certain periods, whole life is almost guaranteed to have very poor performance for at least a decade and often upwards of two decades.

This is not the possibility of bad returns. It is the promise of it.

Reason #4: Whole life insurance is illiquid

Investopedia defines liquidity as:

The degree to which an asset or security can be bought or sold in the market without affecting the asset’s price. Liquidity is characterized by a high level of trading activity. Assets that can be easily bought or sold are known as liquid assets.

Liquidity is important because it gives you options. While you hope to never have to touch your long-term savings, the reality is that life happens and the more options you have the more financially secure you can be. Having access to your money gives you options.

Whole life insurance is illiquid for several reasons:

  1. For the first decade or so, you are almost guaranteed to have negative returns. This means you can’t even expect to get back the amount of money you put in.
  2. Many policies have a surrender charge, which is essentially a fee you have to pay if you decide to cancel the policy and withdraw the cash value. If you surrender, there will also be income tax consequences on any earnings.
  3. Most policies will allow you to borrow against the cash value, but you have to pay interest. This is true even if you are borrowing only the amount of money you have put in, not what it has earned above that.

All of these factors make it difficult to get to your money if you need it. In theory, you should be compensated for this difficulty in the form of higher returns, but as we saw above this is not the case.

I have seen it argued that retirement accounts are also illiquid because of the penalties associated with early withdrawals, and this is certainly true to some extent. But I have several counters to this argument:

  1. A traditional 401(k) or IRA, with the penalites for early withdrawal, is indeed illiquid. But they have many other advantages over whole life, namely the ability to choose your investments, true tax deferral, higher transparency in fees, and cash flow flexibility, which I will talk about below.
  2. With a Roth IRA, you can withdraw your contibutions at any time without penalty. You should never do this except in true emergency situations, but it’s an available option.
  3. Regular old taxable accounts have no inherent liquidity issues, give you the full range of investment options, and can be used in a tax-efficient manner.

Reason #5: Less cash flow flexibility

A corollary to the liquidity issue is the concept of flexibility of your contributions. Even with a traditional 401(k) or IRA, where you can’t access your money without penalty, you can always choose to stop contributing for a period of time if you need that money for other purposes. In the meantime, your account stays intact, steadily earning tax-deferred returns on the money you’ve already put in.

With whole life insurance, you can’t just decide to stop paying premiums. Well, you can, but if you do then the policy lapses and you’re forced to withdraw the cash value, which will subject you to taxes and possibly a surrender charge. And if you haven’t had the policy in place for multiple decades, you will also be left with meager, if not negative, returns. Are you ready to commit to paying that huge premium year after year, no matter what happens in your life? Of course we all want to keep our retirement contributions steady, and even see them increase, but life happens and there are many instances in which having options is incredibly helpful. Those options are much more limited once whole life is introduced.

Reason #6: The claim of “tax-free” withdrawals is misleading

One of the big selling points of whole life is the “tax-free” retirement income. What they’re describing is your ability to take out loans against your policy, which are not taxed. This can indeed be an attractive feature of the policy, but it comes with several warnings.

Although there are no taxes, there is interest. When you borrow from your policy, interest starts accruing from day 1 and keeps accruing until you pay back the loan. If you’re using it for retirement purposes, are you going to pay back the loan? No, of course not. So the interest keeps accruing. And the interest applies to all money withdrawn, including your contributions, which were already taxed. These loans also reduce the death benefit of the policy, which may or may not be important to you. So no, there aren’t “taxes” applied those to loans, but there is a similar cost.

Furthermore, you can run into complications when you withdraw too much from the policy and there’s no longer a big enough cash value to support the premium payments. When this happens, you either need to put more money into the policy (likely not part of your retirement budget) or the policy will lapse and then you will face tax consequences. These policies are fraught with complications like this that the salesmen never tell you about.

Reason #7: Lack of transparency in fees. Complicated terms and conditions.

Whole life policies include many fees that are never laid out for you. There is the commission to the salesman. There are administrative costs. There is the cost of the insurance. I challenge you to find an example of a whole life illustration that lays out these costs for you, similar to the way a mutual fund has to tell you the expense ratio, sales commissions, and other fees. They just aren’t transparent, which makes it impossible to understand what you’re truly paying for. And these costs can change over time, again without you knowing, and those changes can affect the return you receive.

There are many other terms and conditions that make these policies very complicated. One such example is the issue described above where borrowing too much from your policy can cause it to lapse. Another is the “guaranteed” interest rate that’s actually much lower than what they state. Even the salesmen selling them often don’t understand how it all works. One salesman, after I asked a number of questions he didn’t know the answer to, compared it to buying a watch. He showed me his watch and said that he didn’t know how it worked, he just knew that it worked. Whole life, he said, was the same way. Needless to say, I did not give him any business.

Reason #8: There are plenty of other options available

Whole life insurance might be more attractive as an investment if there weren’t so many other good options available. Many people have a 401(k) or other retirement plan with their employer. Everyone has the option of an IRA. Then there are regular taxable accounts. All of these options allow you to choose your investments, control your costs (though employer plans will be more limited here), diversify, and avoid the downsides of whole life insurance we’ve just gone over.

If you’re worried about some day wanting the permanent life insurance coverage, know that any good term insurance policy will allow you to convert some or all of it to whole life at any point during the life of the policy. This means that you can save money now by buying term, but still have the option open to get some permanent coverage later. There is no need to lock yourself in now.

Conclusions

There are certain instances where whole life can be useful. If you have a genuine need for a permanent death benefit, such as having a disabled child, it can serve a valuable purpose. If you have a large amount of money, have already maxed out all of your tax-deferred savings, and you can afford to front-load your policy with large payments in the first several years, it can provide better returns than was discussed above. It is a useful product in a limited number of cases.

But the majority of people to whom whole life is sold do not fit these criteria. The majority of us do not need a permanent death benefit and do not have the large amounts of money on hand to make these policies a reasonable investment. For us, there are many reasons why whole life should be avoided. There are too many other good investment options out there to let yourself get stuck with this expensive and poorly performing product.

If you’d like more information on some of the better investment options available to you, you can visit my Investing page to see my thoughts on the topic.

Photo courtesy of Steve Jurvetson

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Matt is a fee-only financial planner dedicated to helping new parents build happy families by making money simple. His free time is spent building block towers and jumping on beds with his two awesome boys. If you want to learn more, you can go here.
  • http://www.edwardantrobus.com/ Edward – Entry Level Dilemma

    Not every day that somebody writes an entire post based on your comment, thanks!
    If anyone ever tries to sell me on a whole life policy again, I’ll take a much closer look at those “guaranteed” returns.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      No problem! Thanks for asking a good question. Definitely approach any whole life sale skeptically. There are situations where it might make sense, but not for the majority of us.

  • http://www.youngadultmoney.com/ DC @ Young Adult Money

    Insurance and investments are totally different! Insurance should
    protect your investments/assets (i.e. your health, your car, your house,
    your stocks, etc.). I will be shopping for a term life insurance plan
    sometime soon here and I definitely am thankful for so many articles out
    there that explain why whole life insurance is a bad idea. The right
    salesman can make it sound like a great deal, but in the end it’s best
    to keep the two separate. You definitely give a thorough argument as to why we should not choose whole.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      I definitely agree that they’re best kept separate. They serve very different purposes. Luckily the internet makes it easier to get information on all of this stuff, though it can still be pretty confusing to sort through it all.

  • http://www.livingrichcheaply.com/ Andrew

    The first years premiums goes to the insurance agent who sold you the policy…and I’m sure there are plenty of other hidden fees in there. I almost went with whole life insurance as a friend was working as an insurance agent and I had just graduated college. I decided against it though. Read a book that said that I should instead buy term and invest the difference. Another problem with whole life insurance is that the premiums are much more expensive than term life insurance…if someone chooses whole life, they will likely choose a lesser coverage and might be underinsured if something unfortunate were to occurr.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      It’s a great point about the cost causing people to be underinsured. I have no idea if there are any statistics on that, but intuitively it would seem to make sense. It’s a shame if someone with a real need for life insurance is under-protected because a salesman could make a bigger commission off the more expensive product. But I’m sure it happens.

      • Holly Johnson

        A lot of life insurance salesman are commission-only….so of course they make a big commission. They aren’t paid a salary so I wouldn’t fault them for that.

        • http://momanddadmoney.com/ Matt @ momanddadmoney

          I don’t fault the salesman for wanting/needing a commission for their work. It’s their livelihood. But understanding where your money is going is an important part of making smart decisions as a consumer. In the same way I wouldn’t intentionally overpay for a toothbrush just so that the toothbrush company could make some money, I’m not going to intentionally overpay for insurance purely for the salesman’s sake. There are plenty of circumstances where paying a commission is worth it for the value of the product. And there are plenty of circumstances where it is not. Understanding the difference is important.

  • http://momanddadmoney.com/ Matt @ momanddadmoney

    It’s a very misleading statement. Technically true, but not as good as it sounds. It always pays to be skeptical when you’re dealing with a salesman.

    • DrO

      Keep in mind though that the interest rate on these insurance loans are among the best rates you can get anywhere for access to money like prime plus 1 or 2 percent, and your principal is untouched and continues to grow. Who would you rather borrow from? Yourself/insurance co at prime plus 1% or 2% or from the bank at prime plus 6%+ So I think it is more misleading to harp on the minimal interest rate your paying on a fraction of the value of the cash value…which again is growing at the rate of the dividends.

      • http://momanddadmoney.com/ Matt @ momanddadmoney

        Well, I would rather not borrow from anybody. I would rather just have the money to use as I please.

        With that said, yes the interest rates are good, but it’s not really appropriate to compare the interest rate on a whole life loan to interest rates from other sources. With whole life, you’re borrowing YOUR OWN money that you already contributed after-tax. That’s very different from borrowing from a bank, where the money was never yours. It’s much more appropriate to compare the long-term, cumulative interest rate to the long-term after-tax returns you could get from other investments. That comparison looks very different and often much less beneficial for whole life.

        Also, it depends on the policy, but for many policies out there the principal does not remain untouched while you have a loan out against the policy. A loan will actually decrease the dividends, and therefore the return, you receive, because you have less equity in the policy. Some policies work differently, but you definitely shouldn’t assume that the policy will continue to grow unchecked while you have an outstanding loan against it.

  • Rachel@Mobilligy

    Thanks so much for the great article! My husband has a whole life insurance plan that was set up for him by his dad when he was a teenager, so he’s always had it. It’s expensive, though, and we’ve often talked about discontinuing it because it’s so pricey. Still not sure what the best route to take is, but I appreciate the very informative article!

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      Evaluating a policy that’s in place, and especially one that’s been in place as long as your husband’s, is much different than deciding whether or not to purchase a new policy. It might be that at this point, with all of the money already put in, it’s actually a good investment despite the ongoing cost. It’s hard to evaluate though, so if you’re really considering what to do I would think about talking to a professional. Ideally you should be able to find a financial planner who will charge you a flat rate to help evaluate the policy, without trying to sell you anything else. A planner who belongs either to NAPFA (http://www.napfa.org/) or the Garrett Planning Network (http://garrettplanningnetwork.com/) would probably be your best bet. Good luck!

      • Rachel@Mobilligy

        Thanks so much for the response, Matt! I do think we could really benefit from meeting with a financial planner, even if just to better understand the policy. Thanks again!

  • Holly Johnson

    I agree that it isn’t a good investment. However, that doesn’t make whole life a bad insurance policy. As I mentioned before, I realized a lot of things in my years working for a mortuary. First, the vast majority of life insurance policies that we filed were whole life (I would guess 80-90%). Why? Because people who are in their 70′s, 80′s, and 90′s don’t have term policies anymore. And I’ve seen all kinds of things happen to people who have planned well financially. Getting old and having to go into a nursing home generally means depleting one’s assets. With nursing homes in my area costing $5000 per month (and more in some areas), it may not take long to go through someone’s savings. Once they go through all of their assets, Medicaid will pick up the tab for the nursing home bill. Having whole life leaves money at the end regardless of what unforeseen circumstances happen. I’ve seen it happen hundreds of times….I’m guessing that those families didn’t think it was such a bad deal.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      This article was 100% devoted to the investment component, but I do agree that there are circumstances where the insurance component can be very valuable. I was actually recently thinking about your previous comment, which was along the same lines as this one. I haven’t run the numbers, as it’s very difficult, if not impossible to find online quotes for whole life insurance where you don’t have to give out your contact information. But if you’re truly worried about having money available for funeral expenses, I wonder if it would be more cost efficient to set up an irrevocable trust with terms that the money in the trust could only be used for funeral expenses. Anything left over could go to the estate. I have a hunch that the one-time cost involved there would in most cases be less than the ongoing cost of a whole life policy. Like I said, I haven’t run the numbers to be sure, but it would certainly be worth considering. This is actually something I could find out pretty easily with a couple of emails. Sounds like a future post!

      • Holly Johnson

        That is the other option. A lot of people prepay for their funeral in a funeral trust. Either option works!
        But as far as life insurance goes, I am truly a believer that the best policy is the one that actually pays. Of course, buying a term policy ends up being a great deal if you die during your 20 or 30 year term…but who wants to do that?
        I personally have term life insurance. However, I would consider buying a small whole life policy in the future.

        • http://momanddadmoney.com/ Matt @ momanddadmoney

          I disagree that an insurance policy has to pay for it to be valuable. Its purpose is to provide you with protection from scenarios you couldn’t otherwise handle, not to pay you money no matter what. Is your emergency fund worthless if you never have an emergency? Would you pay extra for an auto insurance policy that guaranteed you money for a brand new car (at the cost of the new car, not the value of your old on) once yours is done? Even if was more cost-efficient to save the money yourself? Again, I do agree that there are situations where the insurance component of a whole life policy can be valuable. I will never argue that it is a worthless product. I just think that many times it is sold to people who have options for meeting their needs in better ways. That doesn’t make it evil, just inefficient for many circumstances.

          • Holly Johnson

            I certainly don’t think that an insurance policy has to pay out to be valuable and that isn’t necessarily what I meant. We have term insurance now and I certainly find value in it even though it (hopefully) will never pay. What I meant was that the value to other family members is immeasurable. I can’t tell you how many times that I’ve seen a whole life policy swoop in and save the day when family members were struggling to cover the cost of a $10,000 or more funeral. I’ve just seen it happen too many times. Nobody thinks their 90 year old mom whose been in a nursing home for ten years would have life insurance and trust me when I say that people are pleasantly surprised when they find out that that’s the case.
            Of course, it’s always more efficient to just save the money themselves. However, many people don’t and people often want to make sure that the money will be there when they are old and can no longer make decisions for themselves. Whole life is one way to do that. We chose term because it made more sense for us and it was so cheap since we were young when we bought. However, I’m just presenting the alternate viewpoint coming from someone who has filed many, many whole life policies on behalf of grateful families.

          • http://momanddadmoney.com/ Matt @ momanddadmoney

            It’s a very fair point, especially coming from someone with so much first-hand experience. Your earlier point about long-term care diminishing assets, even if you’ve saved for those expenses, is a good one too. Thanks for the input. I’m going to do some digging on the cost of a trust vs. the cost of whole life. I definitely think it’s important to make sure you don’t leave your family members with a huge bill when you die.

  • Walt@ My Wealth Desire

    This is eye opener for me. Luckily I have only term life insurance. I have to pay for 4 years and I am coverage within 7 years.

    Yes I agree that whole life insurance is not investment and not also practical. Next time if i need life insurance i will see to it that it is a term insurance only.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      There are situations where whole life is practical, but those mostly involve unique needs for insurance. The value as an investment is very rare. I think that a good, long term policy is the right way to go for most families.

  • Greg

    I have a small policy that my parents set up for me years ago. It’s not terribly expensive, so I keep up with the payments. From there, I would only by a term policy. I don’t have kids yet, so I don’t have it set up outside of the default that work has. I agree that I would not expect any insurance to be a viable investment.

    I view insurance and what is right for each person as a gauge of their risk tolerance and what they need to be able to sleep at night.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      A policy that’s been in place for a while can often have a lot more promise as an investment going forward than a brand new policy. So it can often make sense to do what you’re doing. If you ever want advice on it, a really good place to ask is http://www.bogleheads.org/forum/index.php.

  • Pauline

    Congrats on the thorough post! I don’t have life insurance because nobody depends on me. But would consider taking it if I had children, just the minimum to make sure they have a replacement income until they turn 18 then they can administrate my estate or start their lives! Whole life insurance sounds like a very bad deal.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      It’s just not very good as an investment, which is primarily how it’s sold to young people. I agree that you typically don’t need life insurance without children.

  • Liran Hirschkorn

    As a life insurance agent I actually agree with you. 30% of people cancel their whole life within the first 10 years – not only do they fail to get a good return, they actually take a big loss. As you said there are times when whole life is a good fit, but for the majority of people cheap term life is the way to go.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      Thanks for bringing the perspective of a professional. Always helpful to hear from that side as well.

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  • http://insureblog.blogspot.com/ H G Stern, LUTCF, CBC

    Cavalcade of Risk #189: What in the world edition is live, and your post is in it:

    http://www.weissins.com/blog/entryid/3627/cavalcade-of-risk-189-whats-going-on-in-the-world-of-risk

    Please let your readers know.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      Will do. Thanks a lot!

  • Nick

    Be careful… Whole life insurance is not an investment by definition. Also, be careful not to bash whole life if you cannot distinguish between STOCK companies and MUTUAL companies and their products.
    I also found the following comment quite contradictory… “Of course we all want to keep our retirement contributions steady, and even see them increase, but life happens and there are many instances in which having options is incredibly helpful. Those options are much more limited once whole life is introduced.”
    The reason you gave for not having whole life is the exact reason to have it. Comedic. The reason to have whole life is because, well, life happens. Whole life has incredible benefits to protect against life events, I.e. disability, premature death, and need for liquidity (yes I said liquidity).
    Disability- what happens to your retirement plan contributions if you want to work but can’t? Your employer can’t even contribute for you… It’s illegal. Oh, a life insurance company will pay the premium for you along with any additional money that you scheduled to dump in… And continue to contribute forever if your remain disabled (if done right). That is called a “self-completing retirement plan.”

    Just take what you read with a grain of salt. There is no ultimate solution to financial success. In a vacuum financial planning would be easy and uniform.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      Hi Nick. Thanks for your input. Here are my responses.

      Your very first sentence stating that “Whole life insurance is not an investment by definition” seems to agree with the entire premise of this article. Glad we’re on the same page there. Unfortunately, it is often sold as an investment to many people who don’t know better. Hopefully now a few more of them do.

      I chose not to discuss the difference between stock and mutual companies here because I don’t think it’s very relevant to the conversation. You aren’t clear why you think it’s important, but my best guess is that you think your returns are more guaranteed with a mutual company. I would agree that you’re better off with a mutual company, but you’re still hinging a large amount of money on the prospects and policies of a single company. It is still undiversified and still exposes you to a lot of unnecessary risk. If you have a different reason for bringing up this distinction I would be interested to hear it.

      “Whole life has incredible benefits to protect against life events, I.e. disability…” This is what long-term disability insurance is for. A disability policy will cover all of your living expenses not just your life insurance premiums. It can even cover contributions to an IRA or other retirement savings vehicle. It’s much better and more cost effective true disability protection.

      And if you want protection from premature death, then you get term life insurance. Very few people have a need for life insurance protection throughout their entire lives. And if you do end up needing it, you can convert your term policy at any time. So no, whole life is not a good option for this kind of protection for the vast majority of people.

      You also say its good for liquidity but do not give any examples as to how. I have given my reasons why I think it is illiquid. If you have specific responses I would love to hear them.

      I do agree with you that “there is no ultimate solution to financial success”. Each person has to find their own way. But there are certain basic principles that most people would be better off for understanding. That whole life insurance is rarely a useful product, particularly when viewed as an investment, is one of them.

  • Julian

    I love this post. You must be the most uneducated person on life insurance ever.

    Literally everything you say is wrong. I hope no one takes the time to fight against this because you would basically have to rewrite the entire article. It’s as if you have never studied anything relating to this topic ever.

    If you are reading this article, and you believe it without doing some research of your own, then you are a fool. This article is written by someone who is going to make money off of you not doing what is best for you.

    I understand if you don’t like life insurance, but you don’t have to lie.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      Hi Julian. Thanks for the comment. I would be interested to hear your specific counterpoints to my arguments. Facts and substance are two things that are always welcome around here, so feel free to use them with abundance.

    • Ben_Luthi

      Julian, having been an insurance agent and knowing quite a bit about whole life in particular, Matt has pretty well hit the nail on the head on a lot of things. Whole life isn’t a bad product per se, but it’s not a great investment on its own.

  • Ben_Luthi

    If people are looking at whole life insurance strictly as an investment, I agree. It’s a horrible investment when you’re looking at it that way. It just can’t compete. There are some good features, though, and it’s a product that only a few companies are really good at. It all depends on what your goals and your priorities are.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      Thanks for the input Ben. I will agree that there are specific features that are very helpful for a small minority of people. But as you say, when viewed as an investment for the majority of people, it really can’t stack up to the other options out there.

      • Jeremy Benson

        Hi Matt, I’m a Life Insurance agent and Advisor and I work for New York Life. Some of your points make sense but saying that whole life is bad is a little off. It is good for savings toward your retirement and will do a lot more than a savings account, money market or cd will ever do. So to agree with you to a certain extent I’ll explain what I do for younger individuals, I’ll sell a whole life policy and later it with term insurance. Basically the whole life will build a cash value with guaranteed returns and the term insurance is in the event of an untimely death. $1,000,000 of term can be as low as $50 a month. Also NY Life has never guaranteed dividends but has paid them out for 159 years, even during the Great Depression. Our company is backed by a $180 billion general account and a $19 billion surplus. So yeah, we guarantee your returns. And we don’t just sell life insurance, that’s why our agents like myself have life, series 6,7,63,66,65 licenses, if our clients, not customers want more than life, we diversify for them into brokerage or anything else they want. Just puttin my 2 cents in.

        • Jeremy Benson

          Meant to say layer with term insurance

        • http://momanddadmoney.com/ Matt @ momanddadmoney

          Hi Jeremy,

          Thank you for taking the time to respond. I appreciate your viewpoint as a life insurance professional but I will respectfully disagree with your key points.

          First, you compare whole life as a retirement vehicle to a savings account or CD. I’ll get to whether or not it’s actually better than those vehicles next, but regardless that’s an improper comparison. When people save for retirement, they generally do so with things like stocks, bonds and real estate. Savings accounts and CDs are not very good long-term investment tools. So whether it’s better than those things for retirement or not, the point is irrelevant.

          Second, I would say that it’s debatable whether whole life insurance is actually better than a savings account or CD, in terms of a savings vehicle. You mention the guaranteed return. Well, as I mention in the post, my policy had a “4% guaranteed return”, but when I ran the numbers it only actually amounted to 0.74% event after 40 years. It was less before that. And this was from one of the top mutual life insurers in the country. Not only is that incredibly misleading (and that’s being kind), I can get a better guaranteed rate than that right now from an online savings account, even though interest rates are at an all-time low. And my online savings account doesn’t have any of the other huge drawbacks that are also mentioned in the article.

          Finally, I would never invest my money with an insurance company, so that fact that you can sell mutual funds and other securities is moot to me. There are far better options than the high-cost products offered by insurance companies and other similar investment sales companies, which I’ve talked about many times on here. Feel free to see one example here: http://momanddadmoney.com/how-to-beat-80-percent-of-investors-with-1-percent-of-the-effort/.

          When I was purchasing life insurance, I was pushed the same thing you’re suggesting here: a small amount of whole and the rest in term. The fact that it’s a smaller amount being bought doesn’t mean it’s any better of a product.

          • Jeremy Benson

            Question Matt, what are your credentials? On the subject of finance and securities, do you hold any of the licenses I mentioned in my response earlier? Are you in the industry, or were you just sold by an agent and didn’t know what you were buying and now you are having buyers remorse looking at an illustration that was shown to you and figuring how you may have gotten a little less than you bargained for by using a calculator? Because dealing with some of our top clients who are in a tax bracket that you nor I will ever see, they are happy with the level of service we provide and the products we offer, maybe you just had a bad agent that needed to close a deal before the month’ s end and made you a customer and it was very transactional as opposed to assessing your need and making you a client. If you couldn’t afford the policy he should have given you a term policy that you could later convert. People with the money prefer not to “rent” as in a term policy, and people that can afford it get permanent insurance. Some people want their wealth to be managed properly and leave a legacy behind for future generations, that is done through life insurance and the other products we offer.

          • http://momanddadmoney.com/ Matt @ momanddadmoney

            Ahh, the old character assassination route once you feel the facts are no longer on your side. I’m surprised we got there so quickly in this conversation. I would prefer to discuss the facts, as those are what actually matter. But if you must know, my credentials are in my author box above for all to see. My opinions are based on a broad understanding of both insurance and investments. My personal experience is used for illustrative purposes. And as an FYI, I have no buyer’s remorse because I did not purchase any whole life insurance. I have no bitterness, just a desire to help people avoid a product that is wrong for them.

            Your “rent” analogy is a classic one used by life insurance salesmen when selling whole life, but it is a poor analogy. After all, insurance has nothing to do with renting vs. owning. Would you say that most people are simply “renting” auto insurance? Do you think people should buy auto insurance policies that will pay them the full price of a new car whenever their car dies, even if they drive it into the ground? Because that’s essentially what whole life insurance is. The main purpose of life insurance is to provide financially for dependents in the case that you die early, just as the main purpose of car insurance (beyond the liability portion) is to provide the financial value of your car in case it dies early. Once that financial protection is no longer needed, the insurance need is gone. Term insurance protects you while you need it and goes away once you don’t. It is insurance in the purest sense of the word and is by far the more effective way to go about it for the vast majority of the population.

            You do write that “some of our top clients who are in a tax bracket that you nor I will ever see” enjoy the benefits of whole life. As I say in the post, there is a small percent of the population with a very large amount of money that can benefit from whole life. That is not who I’m writing for here. For 98% of the population, it is not a useful tool.

            You also write that some people want to “leave a legacy behind for future generations”. That’s a fine objective and if you have a very large amount of money then whole life can be a good way to do that. But again, that’s the top 1-2% of the population and not who I’m writing for here.

            If you would like to bring more facts into this discussion, I would be happy to continue.

          • Jeremy Benson

            Actually I’m satisfied with your response. Because it makes sense, people without the money shouldn’t purchase whole life. We only tell our clients if they can afford it to purchase it. That’s common sense. And if you need something that will take care of your expenses when you are gone and don’t have a lot of money, then term is the way to go. If you have the money whole life is a good tool for tax diversification. But there is too much to talk about that those of us that are in the industry and are actually licensed to help people in these areas and it would take up too much space. We’d be having this discussion for months. But you make valid points, but to say whole life is a bad investment just seems wrong, because of the percentage of people that can use it, it works perfect. I have a friend who makes $80,000 a month who recently came into oil and was discouraged by blogs like this. After I explained to her how ridiculous blogs like this are for her situation she was actually calm and more receptive. I appreciate you informing the public. And in our jobs we do that well enough, I think instead of trying to be Dave Ramsey, you should just title it, “Why Whole Life is a Bad investment for the average Joe or 98% of the population.

          • http://momanddadmoney.com/ Matt @ momanddadmoney

            Thanks for your input Jeremy. I hope you stick to selling only to the people for whom it is truly helpful. My experience has shown that many of your colleagues, all of whom are properly licensed, do otherwise. It is a shame.

          • Jeremy Benson

            And I agree with you Matt. People that just try to make a buck on someone else’s loss or something they truly can’t afford is despicable to me. And I apologize for my “are you licensed?” Comment. Your actually doing a noble thing as a father and informing people that need to hold on to what they can or invest it correctly in this economy. I have a lot of business owners and high end clients and I sell them whole life for a ton of reasons. But for my blue collar average joe or even white collar for that matter, I just wanna take care of them and their families. They’re not my customers their my clients. And that’s drilled into us by New York Life, I hope you have continued success in your Financial Planning career. God bless you.

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  • Torie

    Hi, Matt. My parents are actually talking to an agent to get the whole life insurance and their premium monthly is about $1000 so which makes them to pay $120000 (since it’s the 10 yr plan) and the agent presented that the guaranteed value will be $250000. I have very little knowledge about the whole life insurance plan but wouldn’t it be easier for them to just get it and be insured with that guaranteed value if they are not the type to find where to invest and all that? or is it something that they shouldn’t relay on.. they are doing it for more their retirement and asked me for help but i am very confused about this whole life plan. Thanks!

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      Hi Torie,

      I cannot give you specific advice with regards to your parents’ situation, but I can give you some things to think about:

      1. There is a big difference between investing and insurance. I cannot be certain, but that $250,000 is likely the amount of insurance, which will only pay out upon death. There is a separate investment component that would need to be understood. Please see the note in the post about the investment “guarantees” with these policies.

      2. I would not recommend relying on a life insurance salesman to recommend whether whole life insurance is good for your parents. They are paid to sell their products, not to provide objective advice. It may or may not be a good decision for them, but the insurance salesman is not the source of that information. Which brings me to…

      3. I would recommend that they talk to a fee-only financial planner before they make any decisions. This is someone who would be paid only to give them advice, not to sell them a product, and should therefore be able to be more objective. They should be able to find one who would be willing to work with them for a one-time flat fee (others will try to take over managing their assets for a regular fee. They can evaluate whether that’s something they want on their own, but know that the option for a one-time flat fee is available, and is likely all they need at this point).

      Two organizations they can look to for a fee-only planner like this are Garrett Planning Network (http://garrettplanningnetwork.com/) and NAPFA (http://napfa.org/).

      Another great place to ask this question and get a lot of feedback from a lot of smart people is the Bogleheads community forum (http://www.bogleheads.org/forum/).

      Remember that there’s likely no need to rush this decision, so take the time to do the research and come to a conclusion you are all comfortable with. That policy is not going anywhere, and there are plenty of other options as well.

      If you would like any more assistance with this, please don’t hesitate to contact me directly. You can use the “Contact” link in the menu at the top of the page, or you can email me directly at matt (at) momanddadmoney (dot) com.

      Best of luck to you and your parents.

  • Roman

    If you rely on it as your sole investment, sure. But that’s like saying GIC’s are a bad investment – but not everyone likes a white knuckle ride.

    I’m curious what is considered pricey? I have a whole life policy and my premium is $80 a month.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      I wouldn’t really compare whole life insurance to a GIC. Whole life insurance has many qualities that make it unfavorable that have nothing to do with a modest expected investment return.

      Whether something should be considered pricey all depends on what you’re getting for the price. What are you getting for your $80 per month?

  • Christine

    I bought a whole life insurance policy for my daughter when she was 4! What a mistake to make! Now that the policy is 21 years old, I am undecided whether to continue paying the annual premium or surrender the policy.I have paid $25,126 over the years, and will walk away with $36,250 if I surrender it now. The policy covers has a $100,000 coverage and the annual premium is now $1179. I would appreciate your advice!

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      I bought a whole life insurance policy for my daughter when she was 4! What a mistake to make! Now that the policy is 21 years old, I am undecided whether to continue paying the annual premium or surrender the policy.I have paid $25,126 over the years, and will walk away with $36,250 if I surrender it now. The policy covers has a $100,000 coverage and the annual premium is now $1179. I would appreciate your advice!

      ——-

      Hi Christine. First of all, thank your for stopping by. Second of all, please don’t beat yourself up over this. Life insurance salesmen are trained to make these policies sound REALLY attractive and their arguments can be quite persuasive. I actually found myself feeling close to convinced about one of these policies a few years ago before coming to my senses.

      So I’ll start by saying that evaluating a policy that’s been in place for a while, like yours has, is different from evaluating a new policy. It’s possible that at this point keeping the policy may actually be a good idea, but you will need more information from your insurance company before making the decision. Here are some questions you’d want to have the answers to:

      1. Is it truly whole life or is it some other type like universal or variable life?

      2. Does that $36,250 include any surrender charges? If not, make sure you understand the net amount you would receive upon surrender, less ALL fees and charges.

      3. Ask for a full in-force illustration, which is simply a projection of how the cash value will grow from this point on if you keep paying the premium.

      4. Ask for a projection on when the policy will become self-funding. That is, when the cash value will have built to a point where you no longer have to pay premiums. Ask for a full illustration of that scenario as well.

      Getting all of this information will help you better evaluate whether keeping this policy is a good idea compared to your other options. I’m happy to talk this through further with you if you’d like. You can reach me directly through the contact form in the menu above.

      • Jim

        So you’ve secured a $100,000 tax free asset for $25,000? You’ve also guaranteed your child’s health and future insurability?And you’ve also created a place where cash can earn a wage? And you gave your child possible preferential treatment with respect to financial aid? Sounds horrible. Get rid of that instrument.

        • http://momanddadmoney.com/ Matt @ momanddadmoney

          Hi Jim. A couple of corrections. She’s actually secured a $36,250 asset for $25,000, as that’s what she would walk away with today if she decided to stop paying the premiums. And it would not be tax-free if she surrendered the policy today. Yes she could take tax-free withdrawals from the $36,250 today, but as I discuss above they would be subject to interest which is essentially the same effect as taxation.

          If you’re going to call it a $100,000 tax-free asset, then you have to factor in the ongoing premiums that must be paid until death that will make it cost more than the $25,000 that’s already been paid in. And then you need to compare it to a term policy which would accomplish largely the same objective for a fraction of the cost.

          FInally, as for your other claims, if we actually took the numbers and compared the whole life investment to buying term and investing the difference, it’s possible but very unlikely that whole life would come out ahead. Especially if the other options include tax-preferred retirement or college savings accounts.

          With all of that said, there may very well be good reasons to keep this policy in place now that it’s been paid into for so long. That’s exactly why I suggested she find out more information and be very careful before making any decisions.

          • Jim

            Therein lies the problem. The asset you are securing is not the cash and too many people sell it that way and then the client views it that way. The asset is the death benefit. I know of no other asset where you can essentially secure a million dollar tax free asset at a 60% discount with about 2% down. The cash value build up is a an added bonus as I see it which provides great liquidity later on and also provides for quite a bit of optionality. With respect to term insurance, most people outlive their term so I would argue term is more expensive. I own both, but when I look at my term, if I pay premiums and outlive my term, I will have sunken about 250,000 into the contract and will have gotten zero for it. My permanent insurance will be paid to a beneficiary no matter what. Also people die including children. We need to take a cold look at what would happen if ine of our children died. How do you pay for the funeral? Do you need counseling? Will you go back to work immediately? Would you want to give it to charity or start one in your child’s name? I bought them for each of my kids. They are my favorite asset because I guaranteed their insurability. I have a few friends who have children with diabetes. Most carriers will not insure diabetics. My friends thankfully bought their children policies before they were diagnosed. I would agree permanent insurance is not for everyone, but more people should use at least a small piece of it S part of their plan. I also think they are extremely valuable when a person has the capacity to shrink down the insurance and load it with cash, as you mentioned above. Anytime the IRS puts limits on a vehicle as they do on permanent vehicles or any vehicle for that matter, I tend to think that is a good asset or vehicle for your money.

          • http://momanddadmoney.com/ Matt @ momanddadmoney

            Jim, first of all I’ll just say that I’m glad you found a solution that works for you and your family. That is really the only goal here so the fact that you’ve been able to do that is great.

            However, I’ll simply say that I would do things differently for my family. Some of that is simply a difference of opinion, which happens all of the time with money and doesn’t mean one way is necessarily better than the other. But some if it is also a disagreement with some of the logic here. I’ll try to address both.

            First of all, it’s important to understand that while the death benefit is certainly valuable, it is not technically an “asset”. The asset that you can include on your balance sheet with a whole life policy is the cash value. The only way you get the death benefit is by dying, so it is not an asset you can actually use today. Again, that doesn’t mean it’s worthless, it’s just not correct to compare it to money in a savings or investment account.

            Of course, the other way to get that death benefit is with term insurance. Look, if you want to make sure your children receive money no matter what and you don’t want to save the money yourself, then whole life insurance could be a good option. But you can get term insurance with a 30 year term that should be more than able to cover your children during the period of their life when they depend on you financially. If you go all 30 years and don’t die, you didn’t “get nothing” as you say. You protected your children and any other beneficiaries for that entire period of time. That is very much something. Any argument otherwise is a misunderstanding of how insurance is supposed to work.

            At the end of the term you very likely have no more need for insurance. You may have a desire to pass on money, but again I would argue that that can be better achieved in other ways (buy term and invest the difference, as the saying goes). I think the numbers are pretty strongly in favor of those other ways.

            As for actually wanting coverage in case of the death of a child, I would say that the choice is here slightly more personal preference. You are of course correct that children can die and that there would be costs involved. Whole life insurance can help with that. I would personally prefer to insure against these unlikely scenarios with regular savings and investments because I think it’s less costly and also gives you more options for what to do with the money.

            And yes, it is nice for children who develop chronic illnesses to have some amount of life insurance, potentially. But is the amount you purchase going to be enough? Yes they will have that amount but in most cases if they want more their health will still cause it to either be more expensive or unobtainable. So it isn’t exactly guaranteed insurability for life for whatever needs they have. It’s mostly limited to the amount you purchased, which is probably helpful but also probably wouldn’t meet their full needs. And again I would argue that you could buy term to cover their needs for a number of years while additionally saving in other ways if you really want to give them money they can use in the event of a chronic illness. Having it in accessible accounts would actually give them more options in that situation rather than having to wait till death.

            Again, I want to reiterate that you’ve clearly done the most important thing here, which is provide for your families needs. The fact that I would do things differently doesn’t mean I think you’ve done things incorrectly. I would just advise other people to look towards other avenues to accomplish these goals.

            All the best.

          • Jim

            Your point is valid in that everyone has different risk tolerances objectives etc. so what is good for me is not good for someone else. As for, is the insurance enough for my children; I added an additional purchase benefit where they can add ten times as much coverage no matter what health issues they have. They don’t have to go through a medical. So of they develop juvenile diabetes and they want to add more coverage when they are 18, the company still looks at them in perfect health. They don’t need a medical exam when they add more coverage.
            As far as buying term and investing the difference the company I bought from has produced far better risk adjusted returns when compared to my analysis over the last twenty years of buying term and investing the difference in the S&P. I don’t mean to say we should not invest but I view my permanent policy as a great place to take some risk off the table and also to have some long term safe dollars. I agree that unless you die early, this is not a good short term idea. Also the fact that is not considered an asset as you mention, gives it very favorable treatment. I asked myself, if I were a beneficiary would I want to inherit a portfolio worth 2.5 million a house worth a million or a 3.5 million tax free check. For me, it was the latter. For high net worth people I would argue it is better than a muni allocation. I don’t view the discussion as one or the other invest and buy term or just buy whole life but rather as a synergy of assets that can produce a great value. As you say, it’s all quite subjective. Is whole life your best “investment”? No, but I do think it is a fantastic tool.

          • http://momanddadmoney.com/ Matt @ momanddadmoney

            Thanks for all the input Jim. Once again I’m glad you found something that works for you and your family and I agree that it can be useful for certain high net worth individuals. For 98-99% of the population though, it is not something I would personally recommend.

            All the best to you and your family going forward.

          • Rob

            Can you expand how it is helpful for that 1-2%?

          • http://momanddadmoney.com/ Matt @ momanddadmoney

            Hi Rob. There are two main ways it can be useful for people with substantial wealth.

            1. It can help with estate taxes. As of 2014, married couples can pass on up to $10.68 million to their heirs without any estate taxes due (there are some nuances, but they’re besides the point here). An individual can pass on $5.34 million estate tax-free. For people who will be passing on more that those amounts, they could be facing significant estate taxes that would leave their heirs with less money. Permanent life insurance can be a good way to provide the funds to pay those taxes and allow their heirs to receive the full amount of the inheritance.

            2. For people who have already maxed out all of their tax-deferred space and have a sizable investment portfolio built up, permanent insurance can potentially offer some diversification along with some benefits of tax-deferral. These people could invest in a permanent insurance product specifically designed to maximize the investment opportunity, which would include significant up-front contributions and a few other bells and whistles. These are not the run-of-the-mill whole life insurance policies sold by your local agent, and they are generally not right for people who don’t already have significant wealth.

            I hope that helps answer your question. Let me know if you’d like any more information.

  • namerequired2

    What if you don’t qualify for term life insurance? What isn’t mentioned in this analysis in any fashion is the limitations imposed by your eligibility to purchase various insurance products. If Term is not an option, does IRA always trump WholeLife insurance?

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      Are you asking about people with terminal illnesses? If so, then I’ll admit that my knowledge in that particular area is limited. But my understanding is that a term policy would be very difficult if not impossible to find and there are some special kind of whole life policies you may be able to get. If that’s the situation you’re asking about, then it’s really not a whole life vs. IRA decision. It’s a decision on whether you should invest or whether you should insure. That’s a very different question than what’s being discussed in this article.

      If I’ve misunderstood your question please feel free to clarify.

  • Ben

    I’m 25 and just started a whole life policy a few months ago and pay 460 per month. Would you recommend getting out of the policy and putting that money into a 401k or IRA? I don’t think it would cost me much to get out of the plan since I haven’t put much in. Let me know what you think.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      Hi Ben. First off, thanks for stopping by and asking your question. So I will say that I can’t give you any specific personal advice, as I simply don’t have enough information and it really wouldn’t be ethical. But I can give you a couple general points to consider.

      First, anything you’ve done to this point is irrelevant. It’s all a sunk cost, meaning it can’t be recovered, and should therefore be ignored.

      Second, what that means is that your decision should be based solely on how you expect each option to perform going forward. You can evaluate what you expect to get from the whole life policy going forward vs. what you might expect from other options, and then decide which options give you the best chance of achieving your personal goals. I can’t honestly answer that question for you, but I hope some of the information in this article and others throughout the site do give you a sense of your options.

      Best of luck!

  • dcbrown

    If you have paid a lot more than the payout amount on the policy why won’t the insurance company refund the over payment to you?

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      I’m honestly not 100% sure about this, but I haven’t heard of someone paying more in premiums than they get in death benefit. With a whole life policy, there will typically there will be a point at which the cash value is sufficient to pay the premiums itself, though when that might occur is a big question market. Also, in the illustrations I’ve seen the death benefit itself will also increase as the cash value increases.

      In other words, there are plenty of things to worry about with whole life but I do not think this is one of them.

  • “Dan”

    Matt,

    I really wish you would have stated more clearly the difference between the typical whole life plans with zero overfunding and a participating overfunded whole life policy. But I agree with you: What’s the point of not overfunding? Those policies have such a low cash component that they typically are just a ploy to make money by the agent and it seems as if that was your point all along. Which you should have clarified. Why minimum whole life insurances plans are a scam, especially when sold as a main investment vehicle. But then a little drama drives traffic right?

    That being said there are merits to the latter, which should really be sold as “cash building” tools for people that want to diversify their tax exposure, that’s it. But like you said most agents have no clue about real financial planning. Which would obviously include some degree of IRA’s, 401K’s, ROTH’s, Taxable accounts, hard assets, etc. Like you stated earlier. But have you considered an overfunded cash value policy as a way to diversify within your cash bucket assuming you believe in asset allocation, max 10-20% of total investment? More as an alternative cash bucket? But then that comes to income and the type of individual. I probably recommend them more than most, working with business owners and corporate managers. But for them they need more future tax diversification if taxes are headed north in the future. And the company I use which sadly I’m not going to talk about since I don’t even want anyone to know I wrote this “compliance would massacre me”. But those can be used by a business owner to leverage their cash and actually write off interest paid while said cash is still earning 100% dividend treatment, but of course only a few of those types of companies out there.

    So that being said I agree and disagree. They have some incredible merits when done right and for the right people. But you focused 95% of you article on the limitations and only 5% on their merits.

    But a question for you. Do you have clients that have had an overfunded life policy when markets are tanking and can use that cash to float their business and still earn money while their money is loaned out? Talk about a winner. I have a lot of clients that are in business today because of their policies (and the people still employed). Especially when the interest can be written off. But then again some super conservative clients love them. I guess I’m just bummed you didn’t go any further but I am on a site not geared for my clientele. So here is another free post to build up the conversation and the controversy so you can cash in on the traffic.

    Cheers

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      First of all, thank you for the detailed and balanced comment. I think it adds a lot to the discussion.

      To be completely honest, I didn’t go into more detail about the things you talk about here because I don’t personally believe it’s relevant for the vast majority of the population, and certainly not for my audience. I am aware that if you have a certain level of income and net worth, an overfunded policy may be a good decision for you, which is why I even mention it at all. But for most people, even an overfunded policy would represent far too big a percentage of their overall asset allocation to make sense. You’d get into the lack of diversification issue, so it’s just not worth it.

      I realize that there’s no one-size-fits-all approach, but in general I prefer to use different types of assets for my client’s planning needs. There are exceptions, but I think the benefits of whole life are often overblown and the potential problems understated by the people advocating for them.

  • http://www.facebook.com/Jfernandezfinancialservices Jesse Fernandez

    Life insurance is very important to have but how do you know which one is right for you?

    I have worked in the Banking Business for over 7 years. After years of working for a company/corporation, I decided to start my own business in the same business field. I am now a Financial specialist with New York Life Insurance Company for almost 2 years. I get to do the same thing as before but now I’m running my own business. Trust is everything and I make it my mission to earn my clients trust.

    Whole Life can get very confusing but it doesn’t have to be. It does have A LOT of advantages and yes it does create a TAX FREE income when you retire.

    I have to say that Whole Life is not for everyone but neither is Term. The only way to truly find out is to which one is right for you is to….

    1. Sit down with a financial planner/professional/specialist and do a financial analyst of your current financial situation.
    2. Go over your financial goals and needs for the future.
    3. The Specialist will then create a plan that fits your financial goals and needs.
    4. Go over the plan that was created for you, ask a lot of questions until you know it (don’t be timid) and then decide if it’s a plan that with help you reach financial success.

    You should never have to be sold into buying something your not sure of. You should know everything there is to know about what you’re getting and feel 110% satisfied of the service that you are provided.

    Knowledge is power…(do your research)…. but if you don’t do anything about it, then you’re powerless.

    I hope this helps.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      I definitely agree that it can be beneficial to talk things over with a financial professional who can take a look at your situation as a whole and help you make the right personal choice. I also really like your point that “You should never have to be sold into buying something your not sure of.” I couldn’t agree more.

      But I think most people will be better off with a professional who isn’t tied to a financial institution like a bank, an insurance company or a brokerage firm. An independent advisor, who isn’t incented to sell you any particular product from any particular company, is most likely to be able to give you objective advice.

      One other point. You emphasize the “tax free” nature of whole life here. I feel like I was pretty clear about that in the post and would be interested to hear your thoughts. Just blindly calling it “tax free” ignores the presence of interest (on your own money, by the way) which over extended periods of time can actually be more detrimental than taxes.

  • Phil

    Matt,

    Thanks for the insightful article. I agree with the general statement that, in a vacuum, it is better to “buy term and invest the difference.” However, I’m interested to hear your thoughts on using whole life insurance as an investment vehicle in the context of the infinite banking model (assuming you are familiar with the concept). From what I understand, it sounds like a good way to achieve predictable and guarenteed growth on a compounded basis while allowing you to borrow money from your own policy and pay yourself the interest, all while always having access to the funds. I think it might be wise for people, like myself, are looking for guaranteed growth with little risk.

    • http://momanddadmoney.com/ Matt @ momanddadmoney

      Thank you Phil. One thing to keep in mind with any investment strategy, whole life or otherwise, is that the word “guaranteed” needs to be treated with a huge amount of skepticism. There’s very rarely anything that’s truly guaranteed, and whatever really is guaranteed is often much smaller than you think. I would look again at the “results are not guaranteed” part of this article.

      As for the specifics of the infinite banking model, I’ll admit that I don’t know a lot of details. It’s always seemed to me to mostly be a clever marketing ploy more than anything else, but if you want a more informed opinion I would check out this article here: http://www.mypersonalfinancejourney.com/2013/04/infinite-banking-concept-whole-life-insurance.html.

      In general, there are ways that you can overfund a whole life policy to make it more attractive than the default, but I still don’t see any reason to even think about it unless you’ve already maxed out all of your tax-deferred space. And even there, there are other ways to get conservative returns without all of the pitfalls of whole life.

  • Kevin Wenke

    Actually, you can easily “surrender” the money from a whole life contract and not pay tax. Life insurance is treated “First in; First Out” for accounting and tax purposes. You can easily surrender the cash value that is considered growth too. However, if this is done, then the policy owner would be taxed. The “loan” is a way for the insurance company to give your money to you and the income tax free death benefit can pay the “loan” back. Yes, there is interest charged however, most of the time it is the same amount that the policy continues to earn because remember, the money is still in the policy. This is known as a “wash loan”.

    Your statement that money isn’t there to earn interest dividends isn’t true in every case. Direct participation companies continue paying dividends on the Cash Value. As interest rates have fallen over the past 30 years, this has caused an arbitrage allowing a policy owner to earn a return above the amount of interest being charged.

    To say a life insurance company is not a diversified portfolio is a hard statement to agree with. Life insurance companies own 18% of the corporate bonds issued in the United States. These a multi-billion dollar diversified portfolio’s of fixed income securities WITH NO INTEREST RATE Risk. It is true that it takes time to accumulate cash value, however, there isn’t a passive investment strategy that doesn’t take time to create wealth.

    The commissions a life insurance agent earns selling a whole life policy is tiny compared to the ongoing commission a fee based asset manager charges to manage a portfolio. These asset managers use bonds to manage stock market volatility. A consumer who hires one of these managers is paying 1-2% annual fee’s for someone to add an asset that reduces long term stock returns and has the potential to drop 20% or more when interest rates rise. It takes 10 minutes to set an allocation and if an investor can stomach the volatility, they need to let it do its thing. More on this in a minute.

    Underfunded whole life insurance may have only performed 4%. However, designed with additional premiums they have actually earned closer to 7% in the 30 years from 1984-2013. Even during the period between 1977 and 1982 where interest rates shot through the roof and bond holders didn’t recapture their losses for several years, over funder whole life returned 35% after the cost of insurance is considered.

    Your comment on liquidity and guaranteed returns is tough to agree with too. Life insurance returns have continued to decrease since interest rates have decreased from all time highs to all time lows. Life insurance is a long term fixed income asset. There are both guaranteed returns and maximum charges in both Universal Life and Whole life. These are lower than the “current illustrations” but the are guaranteed to never fall below those points. This can not be said about any other fixed income investment other than short term treasury notes. This is why banks hold 10-15% of their deposits in cash value life insurance…billions of dollars I might add. It is a tax free fixed income asset that they do not need to “mark to market.”

    I mentioned investment allocations earlier. There are other ways to get stock market returns with Whole life insurance as well. I am not talking about “Variable Life Insurance” either. Those who purchase these policies loose the benefit of having an insurance company retain some of their investment risk. To obtain market returns, a person simply invests in long call options on the broad market. In doing this, an investor earns stock market returns but transfers their downside risk to the owner of the index (SPY or SPX). The options will be worthless or appreciate (sometimes 500%). Coupled with the guarantees of the over funded cash value life policy, their portfolios will not decrease below a certain point in any given time but they can destroy the market in up years. This all takes 10 minutes to manage and about $20 in cost (compared to an asset manager charging a percentage,) Because life insurance is guaranteed to maintain its value, it protects the remaining money that is not tied up when directly invested in stocks and is available to that an investor can be “greedy when others are fearful” (Warren Buffet) or “buy low while others are selling”.

    Add to this, when a younger person owns whole life (or cash value fixed universal life) they have the life insurance coverage they need, are building a tax free bond portfolio for the future (which as most people realize is what older investors shift into as the age) but also have a accumulation vehicle that can “self complete” if they become disabled. 401k’s can’t provide this…they don’t even match the long term return of the do nothing stock markets because of the fee’s they charge. That is to say…there is no “alpha”

    Any person who uses permanent insurance should be out of debt and have the discipline to maintain a long term approach. There aren’t any get rich quick schemes and any plan can work as long as an investor looks to get the maximum value for the money they pay. Cash Value Life insurance provides values that promises you or I can’t keep unless we partner with one of these companies.

    Finally, everyone who accumulates assets will have a life insurance policy of one type or another. Social Security currently is “a life insurance policy”. Will it be around in 30 years? Who knows…who knows what will be there. All I know is that a good plan will have a guaranteed income source that they can not outlive. Many people with assets take Social Security before age 70 because they want to be sure to get something out of it…this is a life insurance decision. They reduce their life time income by taking payment early. If they owned a permanent life policy, they could reduce their investment risk by spending assets and leverage the insurance policy to replace the assets they use while they delay taking income from SS and the increased payment the benefit provides can increase their life style, pay the premium and create a legacy for their children, grand children or favorite charity. Life insurance “loans” are not income. They are loans. So if a person planned ahead, they could receive 10′s of thousands of dollars from the cash value of their policy (and ROTH IRA money) and not pay a dime of income tax on the social security benefit. If inflation happens and interest rates and taxes increase, the SS benefits will increase and this person will have increasing income that won’t be consumed by an increase in taxes as all their income would be tax free.

    Your article is incomplete.

    • StanfordCardinal93

      Wow…what a way to bash a product.

      This is like going to Home Depot and saying their handsaw, drill or other piece of equipment sucks for 98% of the people who visit the store, and reminds me of the saying “a fool with a tool is still a fool”.

      Permanent insurance (specifically maximum funded participating Whole Life and Indexed Universal Life) is the most versatile product that I have ever analyzed, but it needs to be designed to optimize cash accumulation if you’re going to be going in that direction. If not designed optimally from a short list of insurers, then yes…it’ll probably suck as a place to put money and earn a decent rate of return.

      My current blended Whole Life policy breaks even with premium paid in year 5, and together with my Indexed Universal Life policies, my permanent insurance policies constitute my entire fixed income allocation. No need for bonds, as these policies give me a decent long-term growth of between 4.5-6% that is virtually risk free, tax free and dummy proof…and provides a giant tax free death benefit upon my passing.

      I already have a ton of equities exposure in my 401k (in fact, 100% stock allocation), so my high cash value permanent insurance policies provide the fixed income exposure while providing a large death benefit.

      I have a ton of term insurance too, but they will slowly drop off when my permanent insurance grows.

      In any case, once when I was younger, I used to think like the author, that you can overcome your risk tolerance and become a better investor if only you can control yourself and learn to love the equities roller coaster ride…now that I am in my mid-40s, I realize that I’m old school and conservative. I am happy with 5-6% return that is tax free risk free and doesn’t involve me making any decisions except how much I want to save this year.

      I wish you all the best, and hope that one day your mind can be opened to what the product (when it is well designed) can do and not focus on how it had been sold.

      • http://momanddadmoney.com/ Matt @ momanddadmoney

        I’m glad you’ve found an approach that meets your needs. That’s what this whole investing thing is really all about.

        I will say that I do have a conservative part of my own portfolio. It’s not all stocks, as you seem to assume here. I just choose to invest that conservative portion in something other than whole life for all of the reasons listed above. Nothing wrong with a more conservative approach. I would just do it differently myself.

        I’ll also say that I would be careful about using the words “risk free” when it comes to any kind of investment. It’s typically when people start thinking they’ve eliminated risk that they tend to get themselves in the most trouble. Risk isn’t bad, but misunderstanding it is.

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  • John Smith

    I didn’t see the one thing that really is bad, and that is the fact that when you die, the insurance company keeps your cash value. It doesn’t go to your beneficiary.

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