By Dr. Jim Dahle, WCI Founder
I don't actually post about whole life insurance (WL) all that much, but the comments on WL posts number in the thousands and go on for years and years after the post is written. Most of the posts address whether or not you should buy a whole life policy (or its cousins, Universal Life and Variable Life). I generally recommend against them, and the insurance salesmen who love to post comments longer than the post itself not only recommend them, but feed their children and pay their mortgage from the commissions (50-110% of the first year's premium) on the sales. They're not happy when WCI readers actually have responses to the myths they're using to sell them. Today, however, I'm going to address a different question that I get in my email box far more often—how to cancel a whole life insurance policy.
Should I Keep or Cancel My Whole Life Policy?
Long-time readers will recall I was once the proud owner of a whole life insurance policy from Northwestern Mutual (NML). It was sold to me as a medical student by a very dear friend who happened to be interning with NML that summer. He subsequently went into another line of work. The policy was not only inappropriate for me, but it was just a terrible policy. What I really needed was a $1 Million, 30-year, level-term policy. What I got was a convertible $280,000 term policy whose rates would go up every 5 years until long after I would be financially independent coupled with a $20,000 whole life policy.
This tiny whole life policy was something like $21 a month. The annual policy fee was relatively huge compared to the premiums, not to mention the premiums were being paid on a monthly basis (even a poor medical student could have come up with $240 all at once if he had known it would improve returns). The policy had a terrible return. After 7 years, I cashed it in for something like $1,100. I had paid in something like $21 * 12 * 7 = $1,764. That's a loss of 38%, or something like -12% per year. It didn't quite track the minimum guaranteed returns in the original illustration, but my returns were pretty darn close to the minimum and a long way away from the projected illustration. The in-force illustration I obtained (just for fun) prior to surrendering it indicated I was still many years away from breaking even.
For a few hundred dollars of ill-gotten profit, NML is partially responsible (along with a mortgage lender, a realtor, and a mutual fund salesman) for unleashing The White Coat Investor on the world. I wonder how much they would love to pay now to get me to take down the whole life posts on this blog given that over 12 million people have visited the site in its first decade and some of the most popular posts are about whole life insurance.
The question we will be addressing today, however, is not whether you should buy a policy. It is what you should do with the one you already have. There are a number of points to consider.
Do You Want or Need a Permanent Life Insurance Policy?
Although 75% of those who purchase whole life policies eventually surrender them, there are a select few who want them and even a tiny percentage who actually need them. If you are one of these people, you should keep your policy.
Examples of people who need permanent life insurance include:
- Someone who will never actually become financially independent (working until death) and will always have someone depending on their income financially
- Someone with an estate tax problem
- Someone with a liquidity problem
- Someone with some legitimate business issues that are best solved with these policies
Even if you don't need a policy, you might want one. Perhaps you can't stand the volatility of higher-returning investments like stocks or real estate. Or perhaps the 3-4% returns you reasonably expect on the policy are adequate for your needs. Or perhaps you're into the whole Bank on Yourself/Infinite Banking thing. If any of this describes you, then you may want to keep your policy, assuming it is actually correctly designed to do what you want it to do. You might be able to improve it by paying annually, changing dividends to offset premiums instead of paid-up additions, or even by purchasing additional paid-up additions, but you probably shouldn't get rid of it.
Keep Your Whole Life Insurance Policy If You've Had It for a Long Time
Whole life has low returns when held for decades. It has terrible returns if only held for a few years. That means that, after a while, the returns GOING FORWARD may not actually be too bad. The terrible returns are heavily front-loaded, and generally follow the period for which commissions are paid to the salesman. If you're past those years, you probably want to keep the policy, even if you don't like it. I think 15-20 years is about the turning point, but one could argue this occurs by year 10, or even sooner. It varies by policy and how much you hate it.
Certainly, you can't argue it is a good idea to keep it just because you've had it for a year or two or five. If you don't want to pay the premiums anymore, then change dividends to offset premiums. If you just want to maximize the return, then purchase paid-up additions up to the modified endowment contract (MEC) limit and make sure you're paying annually. If you don't want to hire someone to evaluate the policy, this post may help you to evaluate your own whole life policy.
If You're Going to Cancel Whole Life Insurance, Do It Now
Whole life insurance works out best when you hold it until death. Once you have decided you are going to cancel a whole life insurance policy, there is no point in waiting a few more years until it breaks even or gives you a certain return you will feel good about. You may want to wait until just before your next premium is due if it means the cash value will be a little higher, but you certainly don't want to pay more premiums on a policy you will drop at some point between now and your death.
Consider the Alternative
Remember that you cannot just consider the policy on its own merits. You also need to compare it to what you would do with the money if you were not using it for life insurance premiums. If you're going to be using the money to max out a 401(k), or even better, get a match in a 401(k), then it is a no-brainer to get rid of it. Likewise, if the alternative is something like maxing out an HSA or a personal or spousal Backdoor Roth IRA. If you, however, are comparing it to a taxable account, especially invested in low-risk assets, or to just spending the money, then it will compare a little more favorably. I often see agents selling whole life policies to doctors that still have 6-8% student loans. That's financial malpractice in my opinion. Heck, paying off your mortgage, even one with a relatively low-interest rate, may provide a better return than whole life, and it's guaranteed.
Get Term Life Insurance in Place First
It should go without saying that you should never cancel a permanent life insurance policy unless you already have sufficient term life insurance in place to meet your needs and wants. It usually only takes a couple of weeks to buy a term policy, but don't leave yourself exposed even for that long. Besides, you might be surprised by something found during underwriting.
Don't Worry About Tiny Policies
When you start talking about getting rid of a policy, the first thing to consider is any possible tax penalties or tax benefits of doing so. For a teeny, tiny policy like the one I had, that just doesn't matter much. My loss was only a few hundred dollars, and the tax benefit on that would be far outweighed by the hassle factor and the actual costs to claim that. If you have a tiny whole life policy, just cancel it.
You may have had one of these purchased for you by your parents, who dutifully paid a few bucks a month on it for two or three decades before presenting all $2,000 of cash value in it to you (and asking you to take over the payments). Be sure to thank them for their thoughtfulness, then cash it out and use the money to fund a Backdoor Roth IRA. You might not want to mention that you did that during Thanksgiving dinner, by the way.
Evaluate Your Options Carefully on a Large Policy
However, if you have paid tens of thousands of dollars in whole life premiums, you probably want to spend a little more time deciding what you wish to do with this policy. If your policy has a large gain, you've probably had it long enough that you should keep it. But if not, you can avoid taxation of that gain (typically taxed at your regular marginal tax rate) by exchanging it into a better cash value life insurance policy, a very low-cost variable annuity (VA), or even long-term care insurance.
The best of those options, in my view, used to be the VA, since buying another cash value life insurance policy most likely entails another fat commission, and most doctors reading this site ought to eventually be able to self-insure any long-term care needs. However, it is not so easy anymore to find a low-cost VA, so even that isn't a great option for a policy with a gain. Unfortunately, you can't even use losses from tax-loss harvesting to offset the gains since gains in a life insurance policy are not considered capital gains.
Preserving Your Loss
A much more likely scenario for someone who has only been paying premiums for a few years and now realizes they bought a “pig in a poke”, is that you are way underwater on your “investment” at this point. Perhaps you've been paying premiums of $20,000 per year for five years, and now have a cash value of $75,000. You could just surrender the policy, take your $75K to invest elsewhere, and consider the $25K a “stupid tax”. Or, you could have Uncle Sam share your pain a little bit.
Another Option If You Want to Get Rid of Your Whole Life Insurance
Yet another option is to just exchange that whole policy into a modified endowment contract. This can eliminate any need for you to make additional payments into the policy, a big reason why people want to dump their policies. Then you simply leave it alone until your death and have it be part of the inheritance you leave your heirs or your favorite charity. Note that if you go down this path, you can't use the cash value for a better use nor can you borrow against the policy later in life.
There are lots of options when you want to cancel your whole life insurance policy. Spend time evaluating them or you may make another mistake almost as big as the one that got you into this mess. But quit beating yourself up about your decision to buy it; many of us have done that.
What do you think? Have you had this dilemma? Did you cancel your whole life insurance policy or keep it? Comment below!
Thanks for the reply! I will get cracking on the 1035 exchange here directly!
I’m one of these people given a whole life insurance policy my physician parent has been paying into for decades. I just sat on it for a couple years after the transfer, but I’m feeling dumb about that and need to actually make a decision.
The numbers seem slightly better than most of the examples I’m seeing. I suppose that’s because this policy is now 30 years old?
Death benefit 150k
Cash value ~30k, of which 10k is taxable gains.
I’m paying ~$60/month in premiums.
I’m trying to decide whether to dump it, keep paying into it (since I seem to be past the turning point where all the worst downsides have already been paid, even though I don’t particularly need this product), or take the middle road and let “Premium Loans” pay to maintain it while I pretend it doesn’t exist. At first glance it seems like that’s possible, but maybe unwise.
I’m currently maxing out a Roth IRA for the next few years by rolling over the remainder of an old 529. But my employer has a pension instead of a 401(k), so I could probably open a personal 401(k) and start putting this money there instead? If I even understand that correctly.
In any case, I’m definitely passing on the “additional purchase benefit” my parents’ finance guy keeps nudging me about.
Hey Stipes, some “gift” that your parents gave you, but they didn’t know any better 🙁 At least, as you said, it seems like the policy’s poor returns are water under the bridge paid for by your parents, and now the policy going forward isn’t so bad.
I recommend first that your parents fire their salesman should be fire. next, think about if you need the whole life death benefit. If you do, then just keep the policy. If not, and I assume you are a high income doc, you might follow Jim’s “Don’t Worry About Tiny Policies” section above and just cash in the policy. If being taxed on $10k bothers you when you are in highest tax brackets, then put the policy as “paid up” where you don’t have to put anymore money in and take out the cash value that is basis and leave the $10k taxable portion in there. If you were to tax loss harvest in the future or have some other losses elsewhere you can apply that and take the $10k out in the future and nix the policy. Then take the money and invest as per your asset allocation.
One thought I had that might change the calculus is if you are retiring early. If so, it might be worth keeping up with this policy until you retire, then when you retire put this policy in “paid up” status so you are no longer paying premiums and then have the cash value as a “buffer” asset in early retirement where you borrow against that cash value instead of selling equities during a bear market. Wade Pfau has justified whole life insurance with this method. or maybe just take out the cash value instead of borrowing against it during a bear market in early retirement and be done with the policy.
In the end, it’s no big deal what you do with this policy. Assumming you are high income doc and read WCI regularly, you are going to be wealthy anyway and reach your retirement goals no matter what you do with this policy!
Thank you for the advice, Rikki!
Unfortunately I am not a doctor or otherwise high-income myself — I just found WCI while looking for analysis of whole life insurance, and found it pretty apt since it was my doctor parent who bought this policy in the first place. I have a steady career and a pretty comfortable long term retirement plan regardless of what I do with this policy (and my parents being well-off makes that easier!), but my income is significantly lower than that of my parents and the target audience here. On the one hand, it means this money isn’t minor to me. On the other hand, it means tax is a smaller factor in what I do with it.
actually Jim is definitely right, you might want to keep the cash value as the last asset to sort of use up. More specifically you can draw from the cash value if you want to keep within a certain tax bracket in retirement, or as a backup “buffer” asset like I mentiond above in case the safe portion of your retirement portfolio gets used up like the bonds, or if both bonds and stocks go down like in 2022.
If you are already maxing out your retirement accounts at work, maxing out an IRA, and the $720/yr is not a big deal spending for you, then makes sense to keep this policy. also if you have legacy goals as well, that death benefit can help.
When does the policy get fully paid up, btw?
It can certainly function as a buffer asset, but it’s a great asset to leave behind to heirs. I mean, that’s what life insurance is designed for so no surprise it works well for that.
I think whole life cash value is far better as the last asset spent rather than the first.
I was sold a whole life back in 2016 when I was only 27. Monthly payment of $469.39, I had no other debt that I was carrying at the time and am still debt free (minus our mortgage), and my dad (who has a poor dad mindset) talked me into it, in addition to my ‘financial advisor’ who was only really an insurance salesman it turns out. My dad also took out a whole life on me when I was a kid, and is still making payments on it, not requesting that I take that over. But should I try and take it over also and just get the cash value out?
8 years in, I now have $36,464.97 CV and a DV of $530,427.13. I do have a wife, and a daughter, and we plan to continue to expand the family.
We have been maxing out our Roth and I’ve been matching my work’s 401k.
That said, I feel gutted every month when I have to pay the $469.39, but feel stuck in this whole life.
The maximum PUA/EPUA deposit before MEC = $15,770.00 and the Cost basis=$50,602.49. Being dyslexic I sometimes have a total meltdown when trying to examine and make financial decisions, which is why I have always tried to find a trusted advisor.
What do you suggest I do with this policy?
Oh and I forgot to mention, that I will be paying this until I am 95.
Make sure you have any necessary term life in place before doing anything.
Analyze the policy and decide if its worth keeping as discussed in this post: https://www.whitecoatinvestor.com/how-to-evaluate-your-own-whole-life-policy/ Start by getting a current in force illustration and calculating the rate of return going forward.
dude, I’m sorry you got screwed but it’s ok. Look like you have a loss of about $14,000 (your cost basis – your cash value). I lost $50,000!!!! so don’t feel so bad. also looks like your killing the financial game otherwise with maxing out a Roth (I assume you meant IRA for both you and your spouse) as well as getting the match at your work 401k.
I would first try to get TERM life insurance to cover your needs by going to term4sale.com and then once pricing out the cheapest policies for you getting one of the truster WCI insurance agents on this website to sell you those policies. You can get true own occupation disability insurance at the same time if you don’t already have it. If for some reason you can’t get life insurance then I would keep the policy. Otherwise once you have proper TERM life insurance in place, I would do a 1035 exchange into a low cost variable annuity at Fidelity and invest in low cost index funds in the VA until that old cash value from your permanent life insurance policy grows up to your cost basis. You have just make up that $14,000 loss tax free! you can then cash out the VA and use that money to max out your retirement account at work.
I wrote a post how to do it: https://www.whitecoatinvestor.com/best-way-to-cancel-whole-life-insurance-the-1035-exchange/
also, do your dad a favor and just take over the policy and cash it out so he stops paying that! Again, this is contingent on you able to get TERM life insurance.
Thanks Rikki Racela! Both my wife and I have term life insurance taken out on one another (in additional to my whole life). My TI value is $1,000,000 fixed at $42 /month for 20 years. Not sure why I have continued to maintain the whole life. Its burrowed into my head that there is value in it. And yes, IRA is being maxed for both my wife and myself.
I have had 401ks from former imployers, and am still confused on those, since I think money is taken out every month since contributions are no longer being made. But again I just get a headache when I try focusing in on this stuff for too long. Not a good excuse I know. But, my reality none the less.
There are times where I feel we are doing well, and doing all the right things, but still so many months it feels like we are just scraping by since im stuck in this dang whole life. I dont know how to use it, and i dont understand the concepts of ‘self banking’ like so many people try and tell me that it’s true value is. So I keep holding onto it thinking one day I will need to borrow the money from myself…
So if I understand you correctly, taking the cash value out upon close ($36,464.97) and investing it in a 1035 and going the route of LCIF will permit me to not pay taxed on the CV, and it will then once that fund has grown to the $50k, I can pull it and still not owe taxes? Would it make sense to keep it in that 1035, if it will continue to compound at a tax free rate? Or can I take that $50k, and invest elsewhere that would give me better gains?
To be clear, you’re not investing in a 1035. You’ll be investing in a variable annuity. The IRS tax code that let’s you exchange a whole life insurance investment to a variable annuity while preserving your basis is 1035.
Do not leave your money in the variable annuity once it has grown back to your original basis. Even the lowest expense variable annuities will have higher expenses than an indexed etf or mutual fund.
I have to echo what Noraz123 said. You are going to do a 1035 exchange where it exchanges the whole life product with the cash value of $36,464.97 into a variable annuity at Fidelity where you invest that $36,464.97 within the VA until it grows back to cost basis of $50,000, then you cash out the VA and that money of $50,000 is tax free! Do not keep the VA, just cash it out and then invest the money in a taxable account in low cost index funds so you can get as you said better gains.
And if you feel like you have too many 401k’s you can always roll them over into your current work 401k if you think the your current 401k has low cost index funds. I can understand the headache of trying to make sense of all this finance stuff.
And don’t believe the whole life insurance “self banking” thing- it’s basically a scam to get you to buy whole life. They lie to you and don’t tell you that you will build more wealth investing in low cost index funds and not selling out when the market is down, and just keep buying. This will beat out the self banking of whole life insurance easily over the long run. Of course the salesman won’t tell you that!
Jim already wrote a post on why infinite banking sucks in case you wanted to dive deeper: https://www.whitecoatinvestor.com/infinite-banking-bank-on-yourself/
Hi, I am having some analysis paralysis with my clearly ill advised WLI and whether or not to cash it out. I could use some advice or possibly a professional to help evaluate my situation.
I am a 47 yo orthopedic surgeon, planning to work another 13-15 years.
I am in year 14 of the policy.
Annual outlay: $12,107
Cost basis: $172,512
Current value $ 185,800
Taxable gain: $ 12,962
Current Death benefit: $967,721
I have the in force illustration, and the current rate of return is about 4.3%. The guaranteed return is only 2%.
I know that my rate of return to this point is laughable, but I am at least no longer in the negative.
I have finally reached the point where a 4.3% return actually starts to give me some kind of gain, but it still feels poor.
I know that I am likely to get better returns taking this money (and the future $215,000 outlay until I’m 65), doing many other things with it. I have other term insurance ($3.3 million until age 56, $1.5 million to age 66) and can probably just get another $1 million term policy to replace this for my two children (both age 17,) if even necessary.
My retirement accounts are maxed and 529s are well funded.
My situation is complicated by a recent divorce, halving my assets. I have a decent amount of money invested in broad index funds and about 15 % of my portfolio in a private real estate fund.
Do I leave this WLI as a low risk fixed income diversification at this point, or put it in a smarter investment, such as real estate (something like DLP’s housing fund with a preferred 6% return and excellent tax efficiency comes to mind, or just replenishing my brokerage account and index funds after the divorce).
I saw this web site suggested many years ago: https://evaluatelifeinsurance.org/
If that is someone who can help me, or if there is another professional I can hire, I am open to any suggestions.
Or is the simple answer from the wise people on here, cash out?!
Thank you all,
Gregg, so sorry about the divorce man. Hopefully it’s amicable and better overall for your family.
Shockingly, I would have to diverge from Noraz. The reason is going forward the guaranteed rate of return going forward is as you said not so bad! all the poor returns as you mentioned are behind you. because you are so far into the policy and already in positive territory, you are likely going to be above that 2% and by the end of policy overall will be around that 4.3% rate of return. as you said, of course, you could take this money and invest in 100% equities and of course, despite some volatility make more in the long run. but if you have a bond allocation in your asset allocation, I would probably just keep this policy and consider this a bond alternative. some of the benefits of the whole life insurance policy that the salesman who sold you the policy now comes to real fruition as you’ve already paid the negative returns of the policy and that’s water under the bridge. Jim mentions this in the article above already. because you are already maxing out retirement accounts as well as meeting all your financial goals it seems that future outlay of $215,000 is not a big deal for you to keep this policy in force. also, if because of the divorce or other financial hardship, you can always convert this policy to paid up if you can no longer fund the policy.
You might’ve read already, but there might be asset protection of this whole life policy in the state that you live. also, connect as “key man” insurance if you are a partner or you own your own practice. also, a prominent retirement researcher named Wade Pfau has academically justified whole life insurance policies to be used as a buffer asset to mitigate sequence of returns risk. Not sure how far you are in your financial literacy journey but sequence of returns risk is a serious problem for your retirement nest egg when the minute you retire, the stock market tanks and then you’re gonna have to sell equities low. The rest of your retirement funding gets compromised as you sold stocks low and there are not enough stocks left to recover your original nest egg and you run out of money in Retirement. Wade Pfau says to draw from the cash value of this life insurance policy during those times so you don’t sell equities low so your equities will bounce back and you don’t sell them in a bad bear market, and hence avoid sequence of returns risk.
Also, the cash value comes out “tax free” up to your cost basis. this is basically just a return on the premiums paid over the life of the policy but as you take it out, it’s almost acts like a Roth where this money does not get taxed upon withdrawal so you can set your own tax bracket during retirement.
So, as much as I hate whole life policies, once you’re in positive territory, the returns going forward or not so bad and despite the salesman over selling the benefits of it, you already passed the crappy part of the policy and that’s water under the bridge. You should seriously consider just keeping it.
Be sure to change the beneficiary on all the policies if you don’t want your ex-wife to get the death benefit, BTW!
Rikki, I really appreciate the time you took to reply with so much good information. I am going to sit down and read some of the work by Wade Pfau that you referenced. For clarification, I would not put this batch of money into equities. My plan would be to add this to my current position in a private real estate fund, which has a preferred return of 6% annually. While I understand it isn’t a “guarantee”, it has been consistent and stable in it’s history and certainly a diversification from growth index funds. Going forward, I would then invest the money that had been earmarked for the whole life policy in that or a bond fund.
Having said that, a lot of what you wrote is why I am hesitating to just dump it. I have long viewed it as a low risk diversification. Thank you again.
I think James Hunt is still in business doing that but haven’t met any competitors of his.
One other thing to consider when making this decision is that if you dump it you’ll never think about it again but if you don’t you’ll be thinking about it at least once a year going forward.
Thank you for your reply. To be honest, I pay monthly so I think about it once a month!
You’ve done the hard analysis and you have a gain (no need for an exchange).
So, if you didn’t have this policy but had $185k, would you buy this policy? If yes, then keep it. Else, sell it. At 2% guaranteed, I’d sell in a heartbeat. You can get better returns in safe fixed income investments.
Thank you for your reply. I certainly would not buy this policy with that money. At 2%, there’s no question I can do much better elsewhere. At it’s current rate of 4.3%, it gets a little better and it has some tax advantages. But a large part of me wants to get rid of it because of Jim’s point. I’m frustrated that I got duped into it in the first place, and probably don’t want to think about it any more.
I understand that 4.3% is much better than 2%, especially if that is an after tax return. But depending on your state tax situation, munis or treasuries can probably come close. Moreover, you have tax loss harvesting capabilities, you don’t need to request illustrations and do math to figure out the yield, and you likely can access the money days faster than you can with the insurance.
And as Jim mentioned, that mental peace that comes from moving on from this “investment” is an intangible benefit.
I felt the same way about my wife’s “investment” as you do. But finding this article, getting educated and making smart decisions going forward has made me feel much better.
Rikki makes great points about keeping this investment. You have gotten past the worst part of this policy, and going forward it is much better. But I don’t see it as that much better than other tax advantaged, low risk bond funds, and there are the other minor benefits as mentioned above.
Long story short, you probably can’t go wrong financially keeping it or getting rid of it. This is more a personal decision, and how you value the other aspects. If it were me, I’d get rid of the policy, investment elsewhere, and enjoy the peace of mind of having moved on.
Congrats on find White Coat Investor, getting educated financially, and making smart, informed decisions. In the grand scheme of things. These will more than pay off long term.
Hi,
Looking for some advice – navigating this whole thing for the first time. My in laws got convinced into buying a whole life insurance policy for my wife years before we got married. As I’m reading more about this I realized it was a terrible investment so looking to get out of it. Here are the numbers. Is my calculation of “stupid tax” correct?
Policy Date (assume that’s the start date): Jan 1, 2011
Face amount: $1 million
Death benefit: $1,073,676
Annual premium: $7,325
Total premiums paid: $102,550 ($7,325 x 13 years)
Cash value: $88,496
Cash surrender value: $108,356
Is the stupid tax effectively around $14K (88K – 102K)?
Or should I be deducting from the full surrender value in which case we would have a gain of $6K ($108K-102K)?
Few more details:
1. The way it was set up it looks like dividends being generated from the investment portion are being reinvested to grow the cash value.
2. I modeled it out in the online portal and it doesn’t look like there are any fees being charged to surrender the policy.
Am I thinking about this the correct way? Would appreciate any suggestions on whether we should move to another vehicle (vs. taking it all out and sticking it in VOO or VTI).
Thanks
AP
Get an inforce illustration and calculate your return going forward. If acceptable, keep it. If not, surrender it once you make sure you have adequate term life in place. You posted a lot of numbers, but not your expected return going forward.
It’s also not clear to me what the difference is between cash value and cash surrender value in your numbers, so figure that out first. Sounds like your basis is $7,325*13= $93,769, so it looks like you’d have a $14K gain to pay tax on if you walked away.
Hey AP awesome for getting financially literate! I’m sort of confused with the cash value being lower than the cash surrender value. Usually those are switched, where the cash surrender value is the cash value minus any fees for surrendering the policy. Please check on that and make sure you are looking at an in force illustration for accurate numbers.
If it turns out your cash value is more than your cost basis than hooray! the poor returns are behind you and you can still carry this policy if you are already maxing out all available retirement accounts. You could either continue to keep funding if you don’t have another uses for that $7k a year, or put it in “paid up” status and then carry that $100,000 in the policy as a bond alternative, and maybe in retirement draw on it as a “buffer” asset when equities are down,
If it turns out that the cash value is actually $14,000 below cost basis, then yes you can do a 1035 exchange and make up that loss tax free.
Another UL sucker here. I appreciate this post, and all the comments. It’s quite enlightening – though I remain confused.
Universal Life
Year 20 into policy. Age 51.
Death Benefit 500,000
Annual Premium: 4,372
Surrender Value: 111,552
Premiums Paid: 86,350
Guaranteed Interest Rate is 4%. Illustrated rate (non guaranteed) of 4.4%.
I don’t need the policy for the insurance anymore. (If I ever did.) I have a good amount of term now, and should be ok when it expires. Trying to evaluate my options now. I got illustrations with various different scenarios:
If I don’t pay any more premiums, the policy is guaranteed to be in force until age 75. (Surrender value starts to decrease after age 61.) On the non-guaranteed side it lasts until 96. (Surrender value starts to decrease after age 83.)
If I continue paying premiums it’s guaranteed until age 87. Non guaranteed it keeps accumulating value. Would be worth more than the death benefit by age 78, and would cross a million at age 93.
Third option is to only pay annual premiums of 547 total. It would be guaranteed to age 76, and non guaranteed it lasts until age 100.
Another broker has looked at this and recommended I do a 1035 exchange into a John Hancock IUL product. Somewhat confusing to me, but it’s a capped product, with a multiplier and then a performance charge. So the lowest it could go down a year is -1.98%, and maximum upside would be 12.87%. The Death benefit would be 563K. Guaranteed for 35 years to age 86. If the index did poorly every year, the surrender value would run out by age 69. Assuming 5% gains (historical is 5.79 average) the policy would stay in effect for life, with the surrender value not crossing the death benefit until age 119. Just doing the exchange results in a big loss up front, so my surrender value doesn’t recover to today’s values until age 67.
So overall, this is very confusing. The argument of the broker is that by switching products and not paying anything more, the death benefit would last longer both under guaranteed conditions and under current assumptions. To me, it seems like I’m paying another broker fee. And I don’t really need the policy at all!
So should I:
a) Switch to the IUL product
b) Stay as is, but stop paying premiums
c) Stay as is, but pay the premiums to accumulate cash value
d) Surrender the policy, pay taxes on the 25k, and invest the rest
e) Something else completely, like convert to an annuity that I don’t really understand?
Thank you!
I haven’t fully digested your post, but my two initial thoughts were 1.) this isn’t that bad a policy to keep (I’m almost always in favor of dumping policies, even if the awful returns are a thing of the past) and 2.) I don’t understand how doing a 1035 would ever make any sense to you (perhaps it is because there is money to be made by the broker trying to sell you the John Hancock IUL)?
If I were in your shoes, I I would basically cut my options down to this – keep paying the premiums because the forward rate of return is decent or dump the policy altogether as something I never have to deal with again.
You have term insurance, so I don’t see any need to keep the policy and not pay premiums.
Without further digging, I cannot see how switching to a new IUL will help. Just cancel the policy, pay taxes and invest the rest. There are no caps and no additional fees. And it is an easy to understand product.
I’d likely cancel the policy and take the money and run. But part of my reasoning isn’t just financial, it’s the freedom of being completely done with the product and never having to figure out or evaluate it again in the future if interest rates change.
a) No
b) No
c) Maybe if you think it’s a good investment for you going forward
d) Probably
e) Do you need/want an annuity/SPIA/DIA etc?
Thanks for both your replies. To be honest, that’s my gut feeling too. Just get out of the policy because I don’t need the insurance aspect.
What I’m struggling with is that if I take the money I’m left with about 100K after taxes. Per Social Security Tables my life expectancy is 27 years. Depending on my rate of return I could potentially end up with more than 500K investing on my own, but I’ll be paying taxed on those gains. (Maybe not on everything, if goes to inheritors with the step up basis, but on dividends etc.) And also, it will be hard to get too far beyond that 500k. And if I die early obviously it won’t be anywhere near that. And if I keep the policy, it’s likely that even without putting in any more money that I will still end up with the death benefit.
The idea behind the 1035 was that the indexed policy was supposedly a better product. I could get 35 years guaranteed death benefit without any more premiums. I’d lose the cash value but have a longer guaranteed death benefit. If I ended up living longer it wouldn’t be guaranteed. But I am considering cashing in the policy and investing it myself. So if I’m counting on the market doing well, I should do well on the investment side of the policy too.
I know I have to be paying the cost of insurance somewhere, and the insurance company has to be making money off this deal. But somehow using 111K to get a (mostly) guaranteed 563K death benefit seems like a good deal.
Posting this twice as it looks like the 1st post created a new thread.
@Dr. Dahle/Admin – please feel free to delete the other, duplicative post.
——
@UL Sucker
In your first post, you mentioned, “I have a good amount of term now, and should be ok when it expires”, but in your second post you say, “And if I die early obviously it won’t be anywhere near that.”
If you need more insurance, increase your term insurance. If you don’t need the insurance, cut bait and take the money and invest.
I really think you are overthinking this. If you don’t need the insurance, then only decision is if it is worth to keep this financially. If you do need insurance, then compare it to costs of term insurance.
My guess is you don’t need insurance. If that is the case, either keep this as 4% guaranteed investment (consider part of your fixed income/bonds portfolio), or cancel and take your money and invest. I’d do the latter.
The other issue is he has a life expectancy of 27 years, so presumably is nearly 60. If he needs term, I hope he doesn’t need it much longer and can just buy a 5 year policy or something. Soon term will get VERY expensive and he may be better off with a permanent policy he’s already had for years if he still has a true life insurance need.
Maybe we need to dive more into whether he really does have a life insurance need. What bad thing is going to happen if you cancel all your insurance today and die tomorrow?
I don’t need life insurance, and I would not buy any policy today. This was just a question of math – what makes the most sense for me. I’ve heard you say that the decision to buy is not the same as the decision to get rid of a policy. So that’s what I was trying to figure out.
I think your original short form answer stands. I should probably get rid of the policy. I could continue to pay the current premiums and accumulate a guaranteed 4%, but in 25 years or so the cash value would start to get eaten up by insurance costs.
👍
Hey man sorry you got suckered like I did with permanent life insurance, but congrats on you getting financially literate and being proactive on this policy. And also all the poor returns are behind you!
I agree with Jim and Noraz- you’re definitely overthinking this. You said you don’t need the life insurance, so don’t keep this policy. But let’s say you did need life insurance and that $563K of death benefit. You said ” 111K to get a (mostly) guaranteed 563K death benefit seems like a good deal.” I just quickly went on term4sale and based on your age and assuming excellent health, getting a term 30 policy would cost $1800/yr for a $550,000 death benefit. Dude that is way less than the $4372 your paying now in annual premiums! That would be $54,000 for the life of the policy to get the death benefit you need for 30 years, 3 years more than the 27 years you used as your predicted life expectancy. I am not sure why you are using life expectancy rather than your how many years you actually NEED the death benefit, but I assume you are trying to maximize the money you make for you and your heirs upon your death. So let’s do the math- say you do the term 30 policy I mentioned and then cash out your current permanent policy, which will cost you $54,000 overall for 30 years. Let assume after tax you only have $100,000 left to invest in taxable. If you invest that and assume a conservative 5% rate of return over 30 years, and also add the difference in annual premium that you would invest ($4372-$1800= about $2500 per year extra to invest when not paying the stupid annual permanent life insurance premium and use term instead), you get =FV(0.05,30,2500,100000,0)= $598,291.36!!! And yes, if the term insurance expires and you die, your heirs get that $598,291.36 tax free because of step up in basis!
So dude, even if you needed the insurance death benefit or are trying to optimize how much money to leave to your heirs, you are better off buying term and investing the rest based on my assumptions.
So as Noraz said, if you need more insurance, increase your term. If you don’t need the insurance, keep the policy as part of you fixed income part of your portfolio or cancel and take the money and invest. I agree with Noraz and Jim that you just probably just nix the policy, take the money and invest. UL’s are so complex to really utilize for retirement planning and drawdown strategy.
Right after telling me I was overthinking this, you went into some heavy duty hypothetical calculations! Lol!
I don’t need the insurance at this point. I’m just trying to figure out what makes the most sense at this point. I think I was being swayed by seeing the death benefit on the illustrations, that my heirs would get 500K. And if I cashed out and died in the near future, they would end up with much less. But I understand the gist of your argument. That the same applies for any term policy. I could buy a relatively cheap term policy for the next 20 years, and my heirs would do really well if I died during the term. And I’m not considering doing that at all! So I shouldn’t keep my current policy for the “insurance” aspect of it.
I could potentially keep it for the investment aspect, but it seems to make more sense to do that outside a policy.
Thank you!
If you like the guarantee of the death benefit, keep the policy. It’ll be great especially if you die early. It is unlikely that it will come out ahead, even after tax, if you live to your life expectancy or greater.
The problem with swapping for a new policy is that the bad returns are heavily front-loaded, and you’d be signing up for a second set of bad return years. Even if the IUL would have been better to buy from the beginning, I doubt it’s better than what you have going forward.
Be sure you understand how universal life policies work at the end. It’s unlike whole life and the cost of insurance rises and starts eating up cash value. They’re actually not great policies to hold to 90 or whatever.
The last point is key, and I definitely did not understand this before. I thought I had “permanent” insurance. And that as long as I paid the same premium, my heirs would get the death benefit. No matter what. I’ve known for years that I didn’t need “insurance” anymore, but I always felt that the money was eventually going to come back to my heirs anyway.
I’m quite angry to learn that I had no understanding before that this was not quite the case. I remember thinking I was buying whole life insurance, and that when he told me it was universal he said it’s basically the same as whole but with some advantages.
In general, I feel angry that these brokers are taking advantage of people who have no understanding of these products they are buying. I would consider myself fairly savvy – or at least more savvy than most – and I got taken. Having read through all the comments here I recognize I’m not alone in this feeling. And thankfully I don’t think this will make a big difference to me overall. But it still bothers me.
yeah man don’t worry about feeling swindled. I lost $50,000, was in $31,000 of credit card debt trying to fund these premiums, and had plenty of financial fights with my wife who was taking a call position in order to fund $28,000 of whole life premiums while my son and daughter were just born and growing up as toddlers. My wife and I were hugely hurt by the financial industry with whole life and I have a scarcity mindset now beaten into me. Looks like you hadn’t not been psychologically and financially damaged by permanent insurance like me and my wife were.
There are some advantages I suppose, particulzrly more flexibility (like being able to lower the death benefit) but fewer guarantees than whole life.
And don’t feel bad about getting taken. Everyone replying to you was taken too.
Thank you for writing this article. I bumped into it this morning and I have been jolted out of the rock I was living under with regards to these policies.
I bought a policy for myself and I also dragged my husband into this and bought him a policy as well through my medical residency training programs offerings. I have been dutifully paying both for the last 11 years and thought they were a good addition to the rest of the things we have been doing. bought the policy when I was young and pregnant and worried about securing our future. We max out HSA, 401K, have 529 for both kids and have term life policies and disability insurance. I thought I was pretty savvy but I never questioned the whole life policy until today. Mind blown!!
I just called them to get details. my $50,000 policy I pay $36.62 per month and current cash value $3464 and my husband $25,000 cash value $1785 and his monthly payment $28.44.
The customer service rep said that with taking the current cash value of the policy since we have paid more into the policy than we would get back at this point that we would not have to pay taxes on the cash amount if we cancel the policies.
I’m wondering is that true?
Hey IE, no problem seems like you didn’t lose too much money. I lost $50,000 to whole life!!!! Yes, you can just cancel those policies and no tax paid because as the rep said what you paid into them, aka your “cost basis”, is higher than the cash value of the policies. See, you don’t pay tax on anything because you didn’t make any money, but rather lost money on this “investment.”
K thanks again for the info
Don’t beat yourself up too much, but I bet you have a better use for that $5,000, no? Yes, if your cash value is less than the sum of your payments, there is no tax due. At least you, like me, made this mistake with a relatively small sum of money.
Thank you so much for the insightful article. I have been paying into a whole life insurance policy for the past 3 years (~1.7K/year) and am thinking of walking away from it. My surrender value would be only 1.3K currently. Is this still worth transferring to a VA or just dumping it entirely? I called fidelity to start the transfer process but they stated they only accept VA values of $10K or more. Any other companies out there that would take small values like mine? Thank you so much.
Hey Christina, congratulations on getting financial illiterate and realizing that whole life insurance is a legalized scam. There’s no need to do the 1035 exchange on such a small loss. There are no companies that I know of that will accept a 1035 exchange for anything less than $10,000. Please make sure you have appropriate term life insurance before surrendering your whole life policy.
I agree. Get term in place if needed first. There isn’t enough of a loss here to do much with. Congratulations! You learned a lot faster than many of us did.
I found this article really helpful in understanding the pros and cons of whole life insurance policies! For anyone interested in learning more about how life insurance can be used as an investment, I recently read a detailed guide that covers the pros and cons of cash value policies. You can check it out here: https://coverchronicle.com/how-to-use-life-insurance-as-an-investment-pros-and-cons-of-cash-value-policies/. Hope this adds to the discussion!
Hey sandy good article though I think Jim does a better job with the pros of permanent life insurance with this article:
https://www.whitecoatinvestor.com/appropriate-uses-of-permanent-life-insurance/
Thanks for the article. I was sold a IUL about two years ago. I was convinced by a “financial advisor” to put in $12k initially. The death benefit is 500k. I have ZERO need for life insurance (28 yo not interested in having kids ever). I’m coming from a slightly different angle than most of the comments here because I do NOT make a lot of money every year (60k). My minimum premium payment is $4800 every year which is all I can afford on top of the contributions to my 401k and small mutual fund. I’m approaching the two year point on this policy in March. The current cash value is less than 12k, with a surrender charge of $5500. My first premium payment was spent entirely on the policy charges (over $200 a month). I’m not sure how this could possibly be a good investment for me and have been wondering if I should cancel and take the SIGNIFICANT loss. Any tips would be appreciated.
I would argue you can’t afford a $4800 life insurance premium on an income of $60K.
The loss is already done. Nothing you can do about it. Want to keep paying $4800 a year? No way I would so yea, I’d get as far away from this one as fast as I could.
“…if I should cancel and take the SIGNIFICANT loss. Any tips would be appreciated.”
@ C Will – Dr. Dahle is correct. You’ve already taken the loss. The only decision is if it is a good investment going forward and if that is best use of your money going forward. The answer is no. Cancel now. Don’t throw good money after bad. Your basis is too low to worry about anything complex like exchanging into a variable annuity.
Get about $6500 back and be liberated from this “investment.”
Thanks for this post. Reading it, the question I’m left with is not just whether I made stupid investment in purchasing whole life, but whether I made an even more colossal blunder than the typical cases you’ve described.
After resisting getting a financial advisor for years, my wife and I succumbed to family pressure to get one. The advisor sold us Whole Life policies for my wife and I (through MassMutual), both of which started two years ago. So far, we have paid $48K in premiums, and the combined cash values of our plans are about $3K. We both turn 35 years old this year.
Am I right that this seems even worse than the example numbers in this post and other on whole life? Like is this the worst whole life policy of all time? Should I run, not walk, to get out of this thing before I waste massive amounts more? Or is there a possibility I’m missing something?
We do maximize our retirement accounts (and I’m lucky enough to get access to both a 401K and a 457b, so I can “double” the federal contribution limit each year for myself), but I sense from what I’ve read on this site that fact still doesn’t make the whole life a good idea. Given how much money we’re spending on it now, when we’re still semi-young, should we just cut all losses and get out immediately?
Sorry to hear about your situation. It hurts to learn about such a mistake. It may not be much solace, but pretty much everyone here has gone through what you did, including myself.
The knee jerk reaction to your question, “Should I sell/get out?” is a resounding yes. The more nuanced answer requires some additional information. First, do you need the life insurance that comes along as part of this “investment?” I’m guessing not since most people are sold these as investments not because they need the life insurance. If you do need the life insurance, get term life insurance in place before canceling.
Second, while it’s be an absolutely HORRIBLE investment so far, the correct question to ask is, “Is it a terrible investment going forward? Do I have better options?” The proper way to answer this question is to get what is called an “in force illustration” where you “run the numbers” to determine your likely rate of return going forward.
But let me come back to my knee jerk reaction. Just get out. You’ve only had the policy for 2 years. There is 99.99% chance that the investment is still crappy going forward. If you weren’t worried about your life insurance needs when you bought the policy, then you didn’t buy it for the insurance.
Last, forget about all the other advice about rolling over the $3000 to a variable annuity. I think the minimum amount to invest in a variable annuity at Fidelity is $10,000.,
I’ll let others chime in with more nuanced views. I’d just cancel. Walk away now and realize you lost $45000. While that is horrible, many on this board have lost more. The financial acumen you’ll gain from this website and similar (such as Bogleheads.org) will more than make up for it. It took a couple of years for the sting our loss to go away, but I would likely have never found White Coat Investor or Bogleheads in the first place if it weren’t for this “investment.” In the past 12 years, I’ve more than made up for the loss. By a lot. You will too.
Hey dude, I echo Noraz’s comments that just get out of the whole life policy. If you do have kids or mortgage and actually have a need for life insurance when you die then purchase term before you get rid of this policy. Sounds like though you didn’t even need life insurance. I myself lost $50,000 the whole life as the combined cash value for me and my wife’s policies was $130,000 but the cost basis was $180,000. There’s even worse stories on this site where in the Wci forum under Inappropriate selling a whole life insurance there was one Ortho guy who had lost $200,000! it is far more profitable for your retirement plans to take whatever you’re paying for whole life insurance and put it in a low-cost index fund a taxable account and let it grow until you retire. or use it to pay off debt. Or maybe fun 529 for kids if you have any. or hell just invest some of the money and blow the rest!
Yea, that’s a particularly bad policy. Sure it’s a whole life policy and not some type of universal? Run the numbers, but I can’t imagine it ever catches up to a better policy.
You can always invest more in taxable. You don’t ever “have” to use whole life.
Thanks All. Very helpful. Giving me the affirmation I needed that this is indeed an Albatross I need to get rid of.