Today we continue our series on whole life insurance.  This week we've learned how whole life works and that it isn't great insurance or a great investment.  Yesterday we learned that whole life insurance isn't a great asset class, isn't the best way to save on taxes, isn't the best tool for estate planning, doesn't offer perfect asset protection, and is a lousy way to save for college.  Today, we'll explore 5 more myths used by insurance agents to sell whole life.

Myth # 10 Whole Life Is A Luxury You Want

Insurance agents will occasionally fall back onto this argument when it has been pointed out that a client doesn't really have any kind of a need for a permanent death benefit.  They admit that the client doesn't actually need whole life insurance.  Then they try to sell it based on having it as a status symbol or luxury.  “Sure, you don't need it, it's a luxury.”  A luxury is by definition something you don't need.  I prefer my luxuries to be something that I really enjoy.  So before buying whole life insurance as a luxury, ask yourself, “What do I really enjoy?”  If it is owning whole life insurance, fine, buy some.  But I bet most of us would prefer a luxury such as a nice car, a cruise with the grandkids, or perhaps a donation to a favorite charity.

Myth # 11 Whole Life Lets You Spend Down Your Other Assets, Providing Valuable Flexibility In Retirement

Whole life isn't the best way to ensure you don't run out of money, annuitizing some of your assets is.  Whole life isn't the best way to deal with the second to die issue, properly structuring pensions and annuities is.  Whole life agents like to come up with retirement scenarios that make you feel like you have to own or at least want to own permanent life insurance, especially for a married couple.  For example, they'll talk about a pension that only pays out until the working spouse died.  Or they'll talk about annuitizing some portion of your assets based on the life of only one member of the couple.  Then they'll suggest that the proceeds of the whole life policy be used for living expenses by the second to die spouse.  There is no reason to use a whole life policy in this way.  If you want your pension to last until you both die, then select that option.  If you want your annuity to last until you both die, then choose that option.  Yes, it will pay out at a slightly lower percentage, but the difference between payouts is less than the cost of a whole life insurance policy that would cover the loss of that pension.  It simply isn't the right solution to the problem.  Does whole life insurance provide some flexibility in retirement?  Sure, but the cost for that flexibility is too high.

Myth # 12 Whole Life Is A Great Way To Buy Expensive Stuff

Whole life isn't the best way to buy expensive stuff, saving up for it is.  There are some really creative insurance salesmen out there advocating for systems such as Bank on Yourself or Infinite Banking.  The basic scheme is this- by structuring your policy appropriately with paid up additions, you get a lot of cash value into your policy in the early years, such that you break even in 3-4 years rather than 8-15 years.  You also buy a policy that is “non-direct recognition.”  This means that when you borrow from the policy, the insurance company continues to pay dividends on the amount that was in there before you borrowed it out, so the policy dividends essentially cancel out the interest payments due on the loan.  Now, rather than going to your savings account or to a bank to borrow money when you need a car, a refrigerator, or an investment property, you borrow from your whole life policy at essentially no cost. Further, the cash value in the policy that you don't borrow will grow faster than the money in a savings bank.

So what's the problem?  The problem is that you have to buy a whole life policy you don't need.  You might break even sooner than you would with a traditional policy, but there are still several years of negative returns and in the long-term, the same low returns.  Is it better to earn 4-5% a year after 5 years or earn 1% a year starting in year 1?  Well, for the first 6 or 7 years you're better off with the 1% a year savings account.  Also, if interest rates go up from their historic lows, you're still locked in to this system for the rest of your life.  It wasn't very long ago that I could get over 5% from a money market fund.  It also seems to be very easy to finance a car at a dealership at extremely low interest rates.  0% or 1% are not uncommon.  You're better off borrowing from them at 1% than from your policy at 5%.  It's a similar issue with appliances and mortgages.  You go through all this effort so you can borrow from yourself, then realize it's cheaper to borrow from someone else.  Finally, if you don't need to make a purchase for 5 or 10 years, you've got time to invest in something likely to have a much higher return than a whole life policy.  Are those who bank on themselves being scammed?  Not necessarily, but they're generally oversold on the benefits of their scheme.  Its advocates are primarily insurance agents looking to increase sales through creative marketing.   Saving up is simply a better way to make big purchases than buying a whole life policy.

Myth # 13 Really Rich People Or Businesses Buy Whole Life Insurance So You Should Too

Whole life advocates, particularly those who advocate using your policy as a bank, like to point out that lots of very wealthy people and lots of businesses (including banks) actually buy whole life insurance.  While true, it is irrelevant for the typical person.  Big businesses don't have access to the tax-saving retirement account options that a middle class individual does.  Ultra-wealthy individuals have already maxed these out.  When you have far more money than you can ever need, the return on your money doesn't matter as much.  Bill Gates can afford to invest in something that provides returns of 2-5% because he doesn't need his money to work very hard.  That's simply not true for the vast majority of middle to upper class people, including doctors.  As discussed above, ultra-wealthy people also have more use for the limited estate planning benefits and asset protection benefits of permanent life insurance.  In short, the low returns inherent in whole life are much less of an issue for them than they are for you.

Myth # 14  You Should Buy Whole Life When You're Young

Whole life salesmen like to point out that whole life is a lot cheaper if you buy it when you're young.  While it is true that the premiums are lower if you buy a policy at 25 than if you buy it at 55, once you take into account the time value of money and the fact that you'll pay the premiums for 3 extra decades, it isn't any better of an investment at a young age than at an older age.  Actuaries are very intelligent people, and for a risk that is relatively easy to model, like death, they can price insurance quite efficiently.

Aside from the lower premiums, there are two other reasons why it seems better to buy it when you're young.  First, that commission is spread out over more years, so it has less impact on your overall returns.  But the alternative of not paying the commission at all is far more attractive.  Second, it's possible that you will either become less healthy or take up some dangerous sport later in life.  This is one of the serious downsides of using life insurance as an investment- not everyone can use it.  Either they don't qualify for it at all, or the price of insurance is so high that the returns on the investment are even lower than they would otherwise be.  I don't see that as a reason to buy it when you're young, I see it as a reason not to buy it at all.  Can you imagine if Vanguard sent a paramedic out to your house to draw blood prior to letting you buy their S&P 500 fund?

Tomorrow we'll talk about 4 more of the myths of whole life insurance, but for now, let's talk about these five.  Agree?  Disagree?  Comment below!  Please reference which “myth” you're referring to in your comment and keep comments civil and on topic.  Ad hominem attacks will be deleted.