By Dr. Jim Dahle, WCI Founder
Long-term readers know I'm not a fan of whole life insurance. I have owned a policy in the past, but do not currently own one and honestly doubt I'll ever purchase one in the future. Long-term readers may not, however, be aware of an ongoing trend on this website. When I write a post on whole life insurance like this one, it gets a few comments from regular readers and then disappears down the list of blog posts. A few months later, as it starts gaining traction in the search engines, every few days a whole life insurance salesman, or simply someone who has completely drunk the Kool-aid, wanders in and tries to convince me I'm wrong. They are appalled by the fact that I don't agree with them that whole life insurance is the best thing since sliced bread. This makes for some intriguing and occasionally bizarre conversations that frankly typically devolve within a few posts into ad hominem attacks leading to the agent's IP address being blocked from the site. A few days later, a new agent shows up and does the same thing, ad nauseum, for years, on a dozen or most posts on this site.
However, recently I had two whole life “fanboys” show up who both claimed there were NO DOWNSIDES to a whole life policy. It was incredibly bizarre. I mean, everyone knows that just about anything has upsides and downsides. If the downsides outweigh the upsides for you, then you avoid it. And vice versa. So today, I thought I'd make a little list of the upsides and downsides of whole life insurance.
Upsides of Whole Life Insurance
#1 A life-long, tax-free, death benefit
At the end of the day, a life insurance policy is life insurance. If you die while owning life insurance, you get paid the death benefit. This includes whole life insurance. Unlike term insurance, which rapidly becomes astronomically expensive after the term ends and you start getting to those ages where you are actually likely to die, whole life insurance is designed to pay out when you die, even if that's at age 95. If this is a benefit you want, and you want that death benefit to slowly grow (it's way cheaper to buy a Guaranteed Universal Life policy if a flat death benefit is fine with you), then Whole Life does that for you. All life insurance death benefits are tax-free to the recipient, just like when you inherit other assets like mutual funds and investment properties thanks to the step-up in basis at death.
#2 The ability to borrow money against your cash value at pre-set terms
You can access this death benefit even before you die by borrowing against it, as long as the policy isn't a Modified Endowment Contract (most aren't.) The insurance policy dictates the terms of your borrowing. Depending on what's happened in the economy since you bought the policy, those terms may be very attractive or very unattractive, but they are pre-set when you buy the policy. Note that when you die, the amount you've borrowed is subtracted from the death benefit before it is paid to heirs. So any given dollar can only be used as EITHER borrowed cash value OR death benefit, not both. Of course, the loan is tax-free but not interest-free, just like borrowing against your house, your car, or your portfolio.
#3 In some states, significant asset protection for the cash value in the event of bankruptcy
About half the states, including mine, provide 100% asset protection for whole life insurance policies payable to spouse or children. Partial protection is available in a number of other states. Before buying a policy for this reason, make sure your state actually provides significant protection. Bear in mind the likelihood of you actually being sued for a significant amount above your malpractice or umbrella policy limits is exceedingly small (I calculate my risk at <1/20,000 per year).
#4 Non-direct recognition in some policies
In most policies, when you borrow money the dividend on the policy is based on the amount of cash value that is not being “borrowed out” of (technically borrowed against) the policy. This is called “direct recognition.” There are some policies, called “non-direct recognition” where the policy continues to pay dividends as though no money was borrowed against the policy. This is the most important characteristic of the policies that folks use to “Bank on Yourself” or do “Infinite Banking,” one of the few reasonable uses of a whole life policy. The other characteristics are “wash loans” (where the dividend rate on the cash value is equal to [or greater than] the interest rate on the loan and maximizing the use of Paid Up Additions, which have a lower commission rate than the regular policy.
People who do this are essentially trading a few downsides of whole life insurance for the ability to earn a little more on their savings in the long run, which can make a lot of sense when savings accounts are paying less than 1%, but not as much if you can get 5%+ in a money market fund like you could when I came out of residency. The only issue I have with the whole thing is the ridiculous amount of marketing and hype surrounding the concept which leads to people buying policies inappropriately and inappropriately structured policies being sold by agents. If you actually understand how it works, don't mind the downsides, and buy a policy that is actually structured well to do this, it doesn't bother me at all.
#5 Life insurance cash value is an asset that doesn't appear on the FAFSA
This is actually a benefit, although not a very big one for those reading this site. For most of my readers, it doesn't matter that your cash value doesn't show up on your Free Application for Federal Student Aid (FAFSA) because your income does and that alone is enough to keep your kid from qualifying for any significant college aid. When you combine that with the fact that most “aid” is loans, this is a pretty minor upside, but upside it is.
#6 Dividends aren't taxed
Whole life insurance dividends are considered “return of premium,” i.e. you paid too much in premium for the benefit and thus the premium is paid back to you. This “income” isn't taxed, because it isn't really income. It's like a rebate on a lawn mower. You can spend the dividends, use them to pay the next premium, or use them to buy more insurance. The third option is what most people do and is what allows for the tax-protected growth inside the policy and for the slowly increasing death benefit. This tax protection/growth is similar to a non-deductible traditional IRA, but pales in comparison to the up-front tax break given to you in a 401(k) and the tax-free withdrawals available in a Roth IRA, but it is an upside.
#7 Works reasonably well in an irrevocable trust
Trust tax rates and estate tax rates are very high, so putting a whole life insurance policy into an irrevocable trust is a pretty good way to pass wealth on to your heirs IF you have an estate tax problem. Granted, very few high-income professionals have a federal estate tax problem these days given that the estate tax exemption has been raised to >$11M ($22M married), but the tax efficiency and simplicity of the policy, when put in the trust and left alone, is an upside.
Downsides of Whole Life Insurance
All right, let's move on to the purpose of the post, the downsides of whole life insurance.
#1 The insurance is really expensive
Life insurance is designed to pay a death benefit in the event of death. You buy a $1M policy. You die. Your heirs get $1M. Life insurance.
If you die after buying a $1M term policy, your heirs get $1M. If you die after you buy a $1M whole life policy, your heirs get $1M. Same life insurance.
But the problem is that the whole life policy costs 8-10 times as much. 8-10 times the premiums. Same death benefit. Remember your heirs don't get the death benefit AND the cash value. When you die, they get the death benefit.
To make matters worse, thanks to all the moving parts and policy differences, the whole life market is not as efficiently and competitively priced as the term life insurance market.
# 2 You're buying unnecessary insurance
On average, insurance is a bad deal for its purchasers. That's because the sum of all the benefits paid out must by necessity be less than the sum of the premiums paid, at least when accounting for the time value of money. That's because the premiums must cover the commissions to the salesmen, the expenses of the company, the profits of the company (unless mutual), AND the benefits. Benefits must be less than premiums or the company quickly goes out of business. So the general rule is to avoid buying insurance you don't need. Basically, you should insure well against true financial catastrophes, and self-insure against everything else.
The period of life when you need insurance usually starts when someone else (usually spouse and/or kids) begins depending on your income and ends when you become financially independent. This is usually a 30-40 year period, but can be as short as 5-10 years or not exist at all. With whole life insurance, you're buying insurance that covers you for your whole life, including those periods of time when you don't have a life insurance need. Mandated, unnecessary insurance is a downside of whole life insurance.
#3 Returns are low
This is probably the biggest downside of a whole life policy. If the long-term return on these things were 8 or 10%, I'd be writing all kinds of posts about why you should own one. Unfortunately, that's not the case. In a reasonably well-structured whole life policy that is held from age 30 to your death 50+ years later, the return on your cash value is guaranteed at around 2% per year and projected at around 5%. I would expect something between those two numbers. I find it very hard to get excited about tying my money up for 5+ decades in order to get a sub 5% return on my investment, even if it comes with a death benefit.
#4 The crummy returns are front-loaded
Here's another huge downside, as many WCI readers have discovered. Your initial returns on these policies are not 2-5%. They're negative. Very negative. In fact, the cumulative return on the whole life policy I owned for 7 years was -33% or so. Did you see that minus sign? That's right. Ignoring the value of the death benefit (which in these years is very low given the cost of comparable term insurance) you LOSE money for the first 5-15 years on these policies. It is not uncommon at all for me to meet a doctor who has paid $30K a year for 3 years in whole life insurance premiums, decided he doesn't want the policy, and discovers the surrender value is only $50-60K or worse. $90K in. $50K out. That is NOT a very good investment return. Why are the returns so low early on? The main reason is the commission paid to the agent selling it. A typical whole life insurance commission is 50-110% of the first year's premium. So if the premiums are $30k, that agent was paid $15-33K to sell it to you. Now you know why he was working so hard. He got paid what you have to see 400 patients to earn just to sell a single policy. Mad at that agent who sold you your policy yet? Join the club. Fees to the insurance company and the cost of the life-long insurance benefit also contribute to the low early returns on the cash value.
#5 Most policies seemingly designed to maximize commissions to agent
There are ways to improve the returns on a policy. As mentioned above, maximizing the use of “paid up additions” while minimizing the amount of “regular policy” decreases the commission, and thus increases return. But is this the way most policies are structured? Nope. Why not? Well, it's either because the agent wants to maximize his commission or is ignorant. Either way, it's not a good thing for you. This isn't so much a problem with the product itself as the way it is sold, which is the main beef I have with whole life insurance anyway. Speaking of which . . .
#6 Most policies are sold inappropriately
Most whole life insurance policies are sold inappropriately. Thus, it isn't surprising to see that 80%+ of whole life policies are surrendered prior to death, as their purchasers realize they are inappropriate for their life. These cases usually fall into one of three categories.
First, the purchaser has a better use for their money. This occurs when a policy is sold to someone with student loans. Why someone would buy an “investment” with terrible early returns and 2-5% long-term returns while carrying 6.8% debt is beyond me. But I know why that “investment” is sold to that borrower (see # 5 above.) This also occurs when someone has a policy but isn't maxing out available retirement accounts like 401(k)s, 403(b)s, individual 401(k)s for the side gig, 457(b)s, Backdoor Roth IRAs, and HSAs. Even a defined benefit/cash balance plan with its generally lower returns (in comparison to a more aggressively invested and lower fee 401(k)) has far better tax benefits and asset protection benefits than whole life insurance. Whole life insurance doesn't necessarily make sense if you've maxed out your available tax-protected accounts, but it certainly isn't a good move if you haven't even done that. Likewise, a 529 has much better tax benefits (not to mention higher returns and dramatically lower costs) than whole life insurance when saving for college education.
Second, far too many purchasers of whole life insurance don't even understand how it works. They're shocked when they discover they're underwater after 2 or 3 years of making payments. That's not a bug, that's a feature. It's just the way whole life insurance works. Wait until they find out they have to pay interest to get to their money later.
Third, salesmen use half-truths like “tax-free income” to get people to buy the policies. If you took out a home equity loan on your home, you wouldn't describe the proceeds as “income” would you? But that's exactly how borrowing against a whole life policy works. The only thing tax-free about whole life insurance is the death benefit. In that respect, it really isn't very different from passing along a house or a car or mutual fund shares to your heirs thanks to the step-up in basis at death. In fact, if you surrender (i.e. cash-out) a policy with a gain, you don't even get the lower long-term capital gains rates on the gain. You have to pay at your ordinary income tax rates. And if you have a loss, you can't deduct it against your taxes (even if you exchange it into a variable annuity before surrendering, a strategy that some people used prior to recent tax law changes).
#7 ‘Til death do you part
Due to the low early returns and the nasty tax consequences of surrendering policies with gains, a whole life insurance policy is not something you should buy for just a few years or even a few decades. Before buying it, you'd better be sure you really want to hold on to this thing for the rest of your life because, like marriage, it's going to cost you a lot of money and hassle to get out of it. That doesn't mean that if you were sold a crummy policy inappropriately a few years ago that you should keep it. If you're in that situation (like tons of other WCI readers), either pay someone else to evaluate your in-force illustration or evaluate it yourself and then if your evaluation convinces you that it's still not a good investment going forward, dump it either through an exchange to a low-cost VA or by just walking away with your cash value, poorer but smarter.
The main problem with a life-long commitment to something like a whole life policy is that life changes. It's tough to project your income and family situation for the next decade, much less the next half century. While there is some flexibility to restructure a policy, by decreasing the benefit or using the dividends and cash value to make the premium payments, these actions generally decrease the benefits you bought the policy for in the first place. Plus, there is precious little flexibility in the first few years before much cash value has built up. One way some people minimize this risk is by getting a “7-pay” or “10-pay” policy that you only have to pay on for 7-10 years. It would be great to find a “1-pay” policy, but unfortunately, these get classified as Modified Endowment Contracts from which you can't even borrow tax-free.
#8 Borrowing terms often terrible
As noted under the upsides, you can borrow against your cash value at pre-set terms. The problem is those terms are usually terrible. Like 8% interest. Interest rates are going to have to rise a long way for you to be able to get excited about using this source of funds unless your financial life is such a mess that you can't get money any other way in a timely manner. In which case, you probably can't make your whole life premiums anyway.
#9 Many people can't obtain a policy
Due to poor health or dangerous hobbies, many people can't purchase a whole life insurance policy at any sort of reasonable price. No problem, say the agents. Just buy a policy on your spouse, kids, friend, or family member. The problem is now you're likely buying a policy on someone for whom there is no need for life insurance. It was bad enough before when you were buying a policy for periods of your life when you didn't need life insurance. Now you're buying completely unnecessary insurance. That doesn't come free.
#10 Returns on tiny policies even lower
Speaking of buying insurance on your kids, I'm amazed how many people buy life insurance from the same company they buy baby food from. One of the big issues with buying life insurance on your kid is that the policy is typically tiny. This was the issue with the policy I was sold as a medical student. It had a face value of only $20K. Policies that small still have the same policy fees. Those fees make up a much larger percentage of the premium, dividend, and cash value, thus lowering your returns.
#11 Leaving difficult decisions to your adult kids
I am frequently emailed by someone whose parents bought them a policy as a child and have now gifted it to them as an adult, along with the required ongoing premium payments. It always makes them sad when I point out that nobody needed that death benefit for the first 20 or 30 years of their life and that if their parents had just given them shares of a mutual fund they might have received eight times as much money. They get even more depressed when they see their in-force illustration and realize that their ongoing returns won't even be the 2-5%/year that a halfway decent policy might bring. If your kid has to email someone in 30 years to figure out what to do with this crappy policy you were swindled into buying, did you really do them much of a service?
In addition, it likely only offers a minimal amount of death benefit (especially after 30 years of inflation) that didn't preserve any significant amount of insurability for them (now that they're entering the period of their life when they actually have a life insurance need.) If you're the recipient of a policy like this, be sure to thank your parents for trying to do something nice for you. Don't mention what they should have done instead. Then surrender the policy, take your $1500 of cash value, and put it toward student loans or a Roth IRA.
The Bottom Line
Now, if you understand the upsides and the downsides of whole life insurance and you still want a policy, knock yourself out and buy as many as you want. It really doesn't bother me; I don't get paid one way or the other. I would guess 1% of doctors and an even lower percentage of the middle class wants a policy once they understand how it works. However, if the person advising you to buy a whole life insurance policy can't even see, much less articulate, the downsides of the policy, you need to go see someone else. In fact, if I were in the market for a whole life policy, I'd be seeing at least two agents AND one real financial advisor who wasn't going to profit at all from the purchase before making a decision.
Get a life insurance quote from one of our Vetted WCI Insurance agents.
What do you think? Did I miss any upsides or downsides of whole life insurance? Comment below!
Perhaps we’ve exhausted this discussion of life insurance and death benefits. After all….
There are worse things in life than death. Have you ever spent an evening with an insurance salesman? Woody Allen
Read more at: https://www.brainyquote.com/quotes/woody_allen_128374
I am wondering if the salesperson can sell a whole life policy to their spouse, thus keeping the commission in the family so to speak. I have a friend with a finacee that does financial planning including whole life policies. I’m wondering if it might be a better financial vehicle if the commission essentially goes back to them, or if that is even allowed. Or maybe it is still a bad idea due to the other reasons as stated above?
I think they can even pay the commission to themselves for their own policy. Why not? And yes, of course that would increase the rate of return. You’d have to run the numbers to see if it would be worth it.
I would guess anyone just starting out has to split with the brokerage. I don’t think you’d get access to carriers with no volume.
Probably true.
Great Article, I don’t believe I saw it in the article and I didn’t read through all the comments, but another negative that I have seen in a number of my clients (I’m a fee only advisor), is borrowing from the policy many years ago and never paying back the loan on the policy. After a period of time, if you are not careful, the loan value plus all the accrued interest that has built up can become greater than the cash value and the policy will lapse if the loan is not paid back or money pumped into the policy.
Should this happen you can have a boatload of taxable income with no cash received to pay it. The ole “phantom income” problem. I guess it makes sense I posted this on Halloween.
JA
That’s a much bigger problem with universal life than whole life, but if you borrow all the money out and stop paying premiums it can be an issue even with whole life.
Regarding limited pay universal policies
My understanding is that the commission on life insurance comes out of the first year premium. Or maybe the first few years. If so, then it would make sense to pay the minimum premium in the first few years. Treat it like term until the commission period is over, then put in those larger amounts intended to grow the cash value.
This would not work with whole life insurance since there would be no cash value in the early years to permit low premium payments. But it could be done with a universal design.
Of course, this is worth doing only if one had a need for permanent insurance in the first place.
With the estate tax exclusion so high the formerly common manuever of using life and insurance to pay estate taxes applies to very few people. Maybe an owner of a practice might have a buy sell agreement?
The example of using special life insurance cash to pay for a funeral is just silly. Death benefit dollars are worth the same as bond fund dollars. It matters not at all where the money came from
Not quite right. It doesn’t quite work like that. What you can do to minimize the commission on a cash value policy (and this is typically done with whole life by the BOY/IB types) is to minimize the actual policy (on which commissions are a relatively large percentage) and maximize “paid up additions” to the policy (on which commissions are a smaller percentage.)
With Universal, you can change the amount of the insurance and thus the premium, but I assure you that the actuaries/company have designed it to make sure they get their cut and that the agents know exactly what their cut is and will try to avoid doing anything that decreases it.
This is my source for the claim that commissions come out early and that one can save on commissions by paying the minimum premium to start.
The author’s background suggests he should know what he is talking about. Possible I misinterpreted, but he seems quite clear that paying low premiums early would work to reduce commissions. He notes that many agents will be reluctant to provide the commission costs as part of the illustration.
Thus, for someone who wanted to pay a lot into the policy early and let the cash value grow thereafter, it would be best to wait out the high commission period before making those large payments. If the policy has surrender charges this would also minimize the amount of money tied up while surrender charges apply.
https://www.kitces.com/blog/universal-life-insurance-funding-strategies-death-benefit-cash-surrender-value-bd-csv-irr/
I guess I’m surprised insurance companies would let this work, but I guess it isn’t terribly different than the “paid up additions trick.”
If someone can’t or won’t tell me the downsides of something, I know they are a liar, an idiot, or both.
This may not apply to many people on this site, but to people without many assets, WL insurance can disappear when needed most. Take for example, a person that has to become a ward of the state in order for Medicaid to pay for nursing home care. This person needs to liquidate all assets including insurance policies with a cash value. So the insurance goes away as end of life approaches. If it was a term policy, at least a family member could continue making the last few payments. BTW, I am 60 and 17 years into a 30 year term policy (not sure if they even sell those anymore). I pay $888 per year for $500K. Not sure if that is good, but it was the best I could get 17 years ago.
If you are 60 now and 17 years into your 30 year rate that means you bought it at 43 so a good bit younger than you are now. However, if one is a healthy male (females are less expensive) (as I assume you are with a name of JimmyBoy) at age 60 for $500k our rates would be the following:
10 year rate lock carrying to age 70 $112 per month
15 year rate lock carrying to age 75 $148 per month
20 year rate lock carrying to age 80 $203 per month
30 year rate lock carrying to age 90 $564 per month
40 year rate lock carrying to age 90 $590 per month
Rates would be 3-5% less by paying annually but there are still options for pretty much anyone that wants/needs them through about age 80-85.
I think your rate is good because it is essentially a 13 year policy at this point carrying you to age 73 so to replace that (not recommended) cost you an extra $500-$900 per year depending if you wanted to extend it to 15 years vs. the 13 of duration you have left. Moral of the story is buy it early before one ages and thus the cost goes up!
Good point. Never really considered that one before. Probably state-dependent though like most Medicaid rules.
Any thoughts anyone? I legitimately have buyer’s remorse on my 5 million whole life insurance policy I purchased with my wife in the early 2000’s when we were in our mid-30s . We have paid about $70,000 a year since then. We are in our mid 50’s and will continue to pay this until we are in our early 60’s when the dividends pay for the premiums. We were trusting and naive and had young kids and were crazy busy when we purchased them. We have met with various more educated financial people and know we are too far along to make any changes now. We are fine financially and have a network of about 7 million but I am still haunted about this huge financial mistake we made. Any thoughts on how to get over the fact that we made this huge mistake? I am grateful that we are as lucky as we are financially but my stomach still turns when I think of how naive we were and how much we lost financially in the long run. I am serious about my question.
Eric,
Knowing what you know now, would you still buy whole life? If the answer is no, then get out now. Don’t keep perpetuating the error just because you have some sunk costs. Get the right amount of term life, which it sounds like that might not be needed at all now, and cash out your whole life and move on to better choices. $70,000 a year for the next ten years could be put to a lot better use. Then you will not have buyers remorse, you will have a life lesson you learned in the past, not one you are still living. Best of luck.
Dr. Cory S. Fawcett
Prescription for Financial Success
I would most definitely not buy it now. Thank you for your response, Cory.
Anyone else have any other responses?
Cory that is horrible advice and I am almost appalled you would say that. Granted it sounds like he has a policy he has to pay for for life; however, usually after the 10 year point or so the policy pays as much to the cash value side if not more than the premium.
While I agree with saying if you wouldn’t buy it today don’t buy it is ridiculously asinine. That’s like saying if you wouldn’t buy in to the stock market today you never should of done it.
Eric, I am sorry for where you are at and I am glad to see you have sought other counsel as well. If the policy is completely horrible and isn’t making you any cash 20 years in that sucks. Even if it’s a NWMutual policy who’s dividend has collapsed it still should be generating enough money by now to just be another asset in your diversification buckets of life. I would just plan on using the life insurance as your legacy plan for the kids more so and spend down more of your retirement assets instead of worrying about having enough of those for their future.
Best wishes on your continued successes though, even though it’s not a huge win, just caulk it up as functioning with enough time in it that it should be ok in the long run. Just tell yourself it’s like a bond fund at this point.
Chris
Thank you soooooo much Chris! You made my day! You have helped me so much. I appreciate your compassion. It’s not a completely horrible policy and we do have over a million cash value- it’s a guardian policy which is one of the more reputable ones. I like that you said to chalk it up as functioning with enough time in it that it should be ok in the wrong run. I especially liked to reframe it in my mind as a bond fund. I can’t thank you enough! Wishing you the best!
Eric reframing is the best you can do yes sir. Guardian is a good mutual company so you should be fine. If you do end up getting any more whole life make sure you only get the 10 and 20 pay stuff so you have a definitive end date on your last payment.
I am the only Chris Robinette in Nashville so if you ever roll through town to watch some hockey let me know I will buy you a beer.
You got this my friend, best wishes on your 2019.
Thank you Chris. I’ll never buy more whole life. Happy New Year and I just may take you up on that beer sometime.!
This is awful advice Cory- and you advise others??? What’s wrong with you? If you have a policy/policies that you have held long enough- it makes no sense to get rid of it. As Jim Dahle said the decision to dump is different than the decision to buy. Eric clearly stated that he has sought advice from others and obviously it was decided it’s best to hold on- he was just asking for some compassion for having buyer’s remorse.
Well, quit beating yourself up. It’s all water under the bridge now. Chances are good it makes sense to keep the policy now, but with such a huge policy, it’s certainly worth getting some paid advice to help you run the numbers. More info here:
https://www.whitecoatinvestor.com/how-to-evaluate-your-own-whole-life-policy/
@whitecoatinvestor, Jim Dahle MD, what are your thoughts? Thank you.
Not enough info to give any sort of recommendation. The decision to dump it is very different from the decision to buy it in the first place.
https://www.whitecoatinvestor.com/how-to-evaluate-your-own-whole-life-policy/
I bet James Hunt would advise you to keep this one, but it’s certainly worth $100 to find out.
Thank you for responding. You have helped so many of us. Happy New Year!
Hi Eric,
A couple of silver lining points to consider:
1. If you have an attractive provision in the policy for policy loans (where the interest rate is almost completely offset by a credit) this can be a helpful income tax tool to fine tune your tax bracket. This is an over-sold feature, but in your situation, worth considering.
Might require reducing the death benefit in some cases to make it pencil out.
2. “There but for the grace of God go I” applies here. Almost all of us have been red meat for insurance salespeople , when early in our careers. I myself bought convertible term, thinking I might need such a policy. My wife and I do have a survivorship policy for the estate taxes that may never come. The biggest gift from this that you can give is to warn your younger colleagues about these policies.. I am astonished how much younger colleagues appreciate us speaking up on financial matters, where many of us feel we might be overstepping by telling others at work our financial advice.
3. At your age, you can generally assume in most cases, your net worth later will be four-fold or more than it is now. In which case this investment will seem a relatively trivial old mistake. Having said that, I keep wondering the math on this, how the cash value can be $1 M, when you have put 20 years or $1.4 M into the policy, during the years when your mortality costs are small. Someone who’s in the business please step up and help explain.
Thank you Eric for your thoughtful response. The whole life policies bought were staggered (6 in all) in different years and therefore right now we are at the point where our cash value is basically what we put in so far. It’s hard in a post to be inclusive of more details. Many thanks again and Happy New Year- hope you have many silver linings too!
Great educational article. However, what about those of us that got into a Whole Life policy early (in Med School) but now want to switch to term because the money can be better invested elsewhere? What is the first step to switching over and closing the policy?
You buy term first then call them up and tell them to send you a check for your cash value. You’ll owe taxes on any gains.
It is pretty easy to bail out of one of these contracts, we do it for our incoming clients often but the first thing you should find out what your Net Surrender Value is and along with your cost basis. Once you know that you want to cancel the policy you can call the carrier to cancel the policy, they will send you the Net Cash Surrender Value. If there is any cash surrender value in excess of what you paid in premiums then you will have tax owed on that amount. If you decide you don’t want to pay taxes you can 1035 the entire Net Surrender Cash Value to an annuity of your choosing thus avoiding tax. If you go this route be careful not to obtain a high cost Annuity as that can negate any tax savings.
As for term, it really is just a matter of determining the amount you need in benefit for the amount of years you want to have coverage for, apply, be accepted, and put policy in place. Be sure to acquire the term before getting rid of your cash value policies otherwise you could end up without any coverage if the new carrier decides not to approve your case.
I am a later career physician with a very high income due to a side business that took off. We are now approaching the federal estate tax exemption limit and are over the state estate tax exemption limit. Our largest expense is federal and state income taxes, a bit over 1M/yr.
We are considering an add-on cash balance pension plan that could save us around 1.3M in income taxes over the next several years, but would leave us with over 10M in tax deferred accounts. The pension consultant is saying we should also put some whole life insurance in the cash balance plan along with investments, but I am not following his tax saving logic on this part of the arrangement.
Is this a strategy that makes sense? I consider myself reasonably well read on things financial, but the explanations offered so far are too complex for me to understand. With where we find ourselves, good tax planning is equally important compared with what we have already accomplished with good asset allocation and low cost investing.
On the one hand, my head spins with some of the tax advice. On the other hand, we have so much more than we need that it probably doesn’t even matter. Our kids are in their 20’s and are already making 6 figure incomes. What is a reasonable financial path, or even simply our next best move given our circumstances?
I’m assuming since you are in such a high tax bracket they are looking at the whole life as being tax preferred since the loans don’t require you to pay taxes, just if you close out the policies you may have a taxable gain to cover.
It could be something they are looking at for generational planning and estate taxes since those will come in to pay for you it sounds like. If they are just doing it for estate taxes and not the cash value then you could easily do a survivorship universal life for less premium, more death benefit that can be held in trust if you want.
Here in TN we look at how to leverage the TIST to get irrevocable domestic asset protection trusts. Ultimately, you may just want to sit down and understand what the CPA/tax people are wanting you to do. MassMutual is currently performing as the best cash value accumulation. PennMutual just closed new whole life sales and NWMutual dividend rate is tanking the this low interest rate environment. I prefer limited pay stuff like 10 year and 20 year if we do use whole life though so also ask them about that vs something you will be required to pay forever. A lot of people who do the whole life stuff also like the Rockefeller Method so maybe you can check that out to get an idea what they are thinking as well?
Best wishes on whatever you decide to do. Very fortunate indeed. Happy Labor Day weekend.
I wouldn’t put WLI in the CBP, but I would do a lot of Roth conversions and if you plan to leave money to heirs start giving it to them now up to the gift tax limit each year. If they can’t handle it yet, via an irrevocable trust, possibly with WLI in there. But I see no reason to put WLI in a CBP.
When a parent buys a whole life policy for their child, it is a gift to the grandchildren….it is not for the child to cancel the policy for fractional cash. The only way to lose money or get a low return with whole life is to buy from a less than reputable firm, or stop paying premiums. The death benefit always works out to around 6%-6.5% tax free. If your roth and deferred comp are maxed, whole life is a fantastic asset to own.
No. You lose money the day you “drive it off the lot.” Only by hanging on for years (sometimes a decade plus) do you even get back to even.
The death benefit does not “always” work out to be 6%. If you take a look at the guaranteed scale, it can be much less than that. Cash value returns are even lower. But I agree, if what you want is a permanent death benefit that will slowly grow over time, a whole life policy is a great way to get that. I just think very few docs actually want this product once they understand how it works. I certainly don’t need a permanent death benefit that will slowly grow over time to meet any of my financial goals at this time.
I would never get Whole life insurance if I did not use it in Real Estate. I use mine to make loans for Real Estate from and collect interest off of the person I am loaning to and make money off of that each and every month. But as far as what you are talking about yes there is really no real upside to a whole life plan unless you can make money off of it like I am.