When I originally started this series, it was intended as a stand-alone four part series, not an ongoing series.  However, it seems that my blog is an absolute magnet for whole life insurance salesmen and I continue to have dozens of comments and emails on the subject every week. I’ve noticed a few new myths that agents are using to sell this stuff (and argue with me) and will add them to the list in this post. There are lots of new readers since the series originally ran back in December, so to get you up to speed I recommend you read parts 1-4 first. [Update! Now there’s even a part 6!]

Myth # 19 Life Insurance Should Not Be “Rented”

This one is pretty easy to see through, but you still see agents using it frequently.  Since everyone “knows” that it is better to own a home than rent one, the agent says something like “You wouldn’t rent your home for the rest of your life would you?  So why would you rent your life insurance?” Basically, the agent is referring to the fact that if you use term insurance after age 60 or so, it becomes more and more expensive each year, just like renting a home.  But unlike a home, you don’t need life insurance after you become financially independent. When you only need a home for a year or two or three, it is a better idea to rent than to buy. When you only need life insurance for a decade or two or three, it is also a better idea to “rent” than to buy.  The opportunity cost of “ownership” is simply too high.

Myth # 20 Banks Own Life Insurance So You Should Too

This is a frequent one heard from the Bank on Yourself/Infinite Banking crowd. An underpinning of this school of thought is that the greedy banks are taking over the world so you should only do your financial work through the trustworthy insurance companies. To be honest, I don’t have massive distrust for either one of these industries. Both industries have mutually-owned options (mutual life insurance companies and credit unions) where, like Vanguard, the customers own the company.  The agents like to point out that banks actually own whole life insurance as part of their “Tier One Capital,” the money used to determine if the bank is adequately capitalized or not. This is somehow to make you fear that the banks know something you don’t, like the financial world is about to implode and any of those using banks instead of insurance companies for their financial needs are going to go broke. Tier One Capital is a measure of a bank’s financial strength. Banks use less than 25% of their Tier One Capital to buy single premium whole or universal life insurance on a group of employees.  The bank owns the policy and is the beneficiary.  When the employee keels over, the bank gets the cash. The bank is buying the policy primarily for the death benefit, not because the return is particularly high.

Tier One Capital is highly regulated and it is difficult for a bank to include riskier assets such as common stock(aside from that of the bank, which makes up most of Tier One Capital) and REITs in its Tier One Capital. When you are stuck choosing between low-risk/low-return investments, then you can understand why a bank might consider something like cash value life insurance with part of that money.  However, individual physician investors investing for retirement have fewer restrictions on their investment options for their retirement.  Most of them have significant need for their retirement money to grow. The returns available with cash value life insurance generally are not high enough for them to reach their goals. Even so, consider what a bank does with most of its Tier One Capital- it buys the only stock it can, it’s own. If whole life insurance was so awesome, you’d think the bank would use all of its Tier One reserves to buy it. In short, doctors aren’t banks, so doing what banks do isn’t necessarily smart.Tier One Capital is highly regulated and it is difficult for a bank to include riskier assets such as common stock

Myth # 21 Corporate CEOs Own Whole Life Insurance So You Should Too

Agents, particularly of the Bank on Yourself type, love to point out that the golden parachutes for many highly-paid CEOs include cash value life insurance policies. However, just as the financial situation of a bank is dissimilar from that of a physician, so is the financial situation of a CEO making $10 Million a year different from that of a physician. When you’re making a gazillion dollars a year, rate of return on your money becomes much less important and thus the benefits of whole life (asset protection, tax, estate planning etc) become relatively more important.  It isn’t that returns on whole life magically get better.  Again, if you are in a position that you only need your long-term money to grow at 3-5% nominal per year, then feel free to invest in whole life insurance. Most of us, however, need higher growth. Remember that a doctor making $200,000 per year and a CEO making $10 Million per year are in very different financial circumstances and what works fine for one will not necessarily work well for the other.

Myth # 22 Banks Failed During The Great Depression, but Insurance Companies Didn’t

This myth again preys on the fears of a global economic meltdown. In 1933 there were two holidays.  The first was a “Banking Holiday” in which the banks were closed for 10 days as sweeping regulatory changes took place.  The second was an “Insurance Holiday” in which for a period of nearly six months you could neither surrender your cash value life insurance policies for cash, nor borrow against them. Aside from this holiday, 14 percent (63 companies) of life insurance companies actually DID fail during The Great Depression.  In fact, if they would have actually marked to market the bonds and mortgages they held, they would have ALL been insolvent. Reforms were put in place during The Great Depression that fixed many of the problems leading to bank failures and the banking holiday.  However, these reforms were never put in place for insurance companies.

Myth # 23 After-Tax, Whole Life Returns Are Better Than Bond Returns

This one usually goes like this.  “If you can buy a bond yielding 5% and are in a 45% marginal tax bracket, the after-tax yield on that is just 2.75%.  A whole life policy with a “tax-free” internal rate of return of 5% is better.” This is an apples to oranges comparison. What is the 1 year return on that whole life policy? 2.75% sounds a whole lot better to me than a -50%. Even at 10-20 years, the bond is still way ahead.

I wrote about a physician who was pleased with his 7% return on his whole life policy bought in 1983 (don’t expect to see that again any time soon).  Except that he could have bought a 30 year treasury that year yielding 10.5%. 10 years later, as his whole life policy is breaking even and interest rates have dropped, the bond purchaser has not only already more than doubled his money just from the coupon payments, but the capital gains on that bond added another 50% to his return. That investor would have done even better purchasing equities in 1983, the start of an 18 year bull market. A bond, which can be sold any day the market is open, simply cannot be compared in any fair manner to an insurance policy which must be held for life to have any decent kind of return. Besides, most physician investors can hold taxable bonds inside retirement accounts instead of a taxable account anyway. That retirement account not only provides for tax-protected growth like a whole life policy, but also a tax-rate arbitrage between your marginal rate at contribution and your effective rate at withdrawal, further boosting returns.

Even if your only choice is between buying bonds in a taxable account and buying whole life insurance, keep in mind that even at today’s low interest rates you can still buy Vanguard’s Long-Term Tax Exempt Muni Fund yielding 3.17%.  The guaranteed return on whole life insurance cash value, held until your life expectancy, is about 2% and the projected return is only ~5%. Realistically, you should probably expect a return of 3-4% over the long term on that policy. Of course, if you actually wish to cash out of that policy instead of borrowing from it (and paying interest for the right to borrow your own money), the earnings are just as taxable as any taxable bond fund. And if you want your money in a mere 10-20 years, you’re going to come out way behind with the life insurance.

Now, if you really understand how whole life insurance works and you think its unique features outweigh its significant downsides, then feel free to run out and purchase as much as you like.  It truly does not bother me. I do not make any money if you buy whole life, nor if you decide to buy something else. However, if you are like most, once you understand it, you won’t buy it and in fact, if you already have, you’ll probably be looking for the best way to get out of whole life insurance. Don’t feel bad.  80% of those who purchase these policies surrender them prior to death, 36% within just five years.  You’ve got to ask yourself why so many people who were apparently intending to hold this product for the next 40 or 50 years suddenly changed their mind.  I’m sure it has nothing to do with it being inappropriately sold to the financially unsophisticated by insurance agents facing a terrible financial conflict of interest with their clients. Whole life insurance is a product made to be sold, not bought.  It is a solution looking for a problem that exists for very few, if it exists at all. Check out Part 6 here!

What say you about these five myths? Are there any I haven’t yet hit in this series? Comment below!