I've explained elsewhere how the vast majority of physicians and similar professionals should buy life insurance, namely buy a 20-30 year level term policy or two. On rare occasions, someone may want or desire a permanent death benefit, meaning that your beneficiaries WILL get the death benefit when you die, no matter when that might be. Obviously, most term life insurance policies never pay anyone anything, because they don't die during the term. But if you absolutely need a death benefit no matter when you die, the cheapest way to get that is through a universal life insurance policy known as a “guaranteed no-lapse” policy (rather than the more commonly and often inappropriately sold whole life policy). Sometimes you need to buy a “no-lapse” rider to go with it. A policy guaranteed to pay out is obviously going to cost more than one that is probably not going to pay out. But how much more? Let's take a look.
Life Insurance “Returns”
I asked Larry Keller, an insurance agent well-known on this blog through guest posts and comments, to give me the best no-lapse guaranteed universal life policy he could find me for $1 Million for a healthy 30 year old male in New York. He suggested the PruLife® Universal Protector Life Insurance Policy. With this policy, you would pay a level premium of $3434 per year from age 30 until age 120 (if you live longer than that you get to stop paying premiums and STILL get the death benefit-what a deal!)
A 30 year level term policy from the same company would cost $745. Let's take a look at the “return on the investment” of these two policies.
If you die in the first few years of either policy, your family obviously makes out like a bandit. That's why you buy insurance. You're betting you'll die sooner than later. But what if you die in the 30th year of the policy? What kind of a “return” is that on the premiums paid?
For the term policy, you plug this function into Excel: =RATE(30,-745,0,1000000,1) = 19.74% per year return. So basically, any time you actually collect on a term policy, you've earned an incredible return on your “investment.”
For the GUL policy, put in this function: =RATE(30,-3434,0,1000000,1) = 12.37% per year return. That's still a pretty nice return on your money.
Naturally, those returns look pretty good. The reason why is that you're not very likely to die before age 60. In fact, the life expectancy of a 30 year old is to live to age 81.1, probably longer for a healthy 30 year old. Obviously the return on that term policy if you die at age 81.1 is a big fat negative. What would the return be on the GUL policy? The function would be =RATE(51,-3434,0,1000000,1) = 5.67%. That's a much more modest figure, and seems quite reachable for an insurance company with five decades to invest your money, even with business expenses and profits taken out.
By the way, if you live through 2 or 3 broken hips and mercifully keel over at age 120, your return is 2.25%.
Why does any of this matter? Well, if you're going to consider “investing” in a life insurance policy (which I recommend you don't do), you need to remember that aside from the investment aspect, you're also getting a death benefit, and need to subtract that out prior to any calculation.
Whole Life “Returns”
Now let's compare three different life insurance policies from the same company. We'll use Metlife since they offer all three types, at least in New York. Again this is all standardized to a $1 Million face value for a healthy 30 year old male.
- 30 year level term: $909 per year
- Guaranteed No-Lapse Universal Life: $4101 per year
- Whole Life (standardized to a policy where you pay every year of the policy similar to the GUL): $8230 per year
So in reality, you're spending $4101 a year on the death benefit, and “investing” $8230-4101=$4129 a year.
If you look at the guaranteed cash value on this policy, after 40 years, it will be $521,000. What kind of a return is that? 4.98%. At 10 years, the return is 9.16%. After 70 years, the return would be 2.83%. I was surprised to see that the guaranteed return declines over time. I wondered why that might be. The return actually seems pretty attractive, at least in the first few years. But you have to remember that with Whole Life you get either the cash value OR the death benefit, not both. You can actually take a combination of the two by borrowing from the policy, but the death benefit is reduced by the amount borrowed. The more I thought about it, the worse the idea of buying a whole life policy seemed to be. Not only does Whole Life have a lousy death benefit return, but it also has a lousy investment return. Combining insurance and investing seems to be a lose-lose proposition. At 10-30 years, when the return seems not too bad when compared to a GUL policy, you really should be comparing it to a term policy. After 30 years, when you SHOULD be comparing it to a GUL policy, the investment return, at least the guaranteed return, is relatively poor.
The return for dying at your age expectancy for this GUL policy is 5.15%. For this Whole Life policy, it is 3.02%.
If you cash out of the whole life policy at your life expectancy, thus deriving no insurance benefit, your return on this “investment” was a mere 1.93%.
At least the return was tax-free if you die. The gains are fully taxed if you cash out (unless you cash out in the early years when cash value is less than total premiums paid and thus have a negative return.)
A proponent of investing in a life insurance policy would argue at this point that you also had the benefit of a death benefit while you were investing. I don't see that as relevant to the calculation, since you get either the death benefit OR the cash surrender value, not both.
All these calculations are made using the guaranteed values in the policy. MetLife can, at their own discretion, pay you higher dividends than the minimum guaranteed amount. So it's possible the return could be better than 1.93%. In fact, the illustration they send you using the “current dividend scale” shows both a higher rate of cash value growth AND a higher death benefit. Calculating returns using these values would give the following “returns” at your life expectancy:
- Death Benefit Return: 5.79%
- Cash Value Return: 4.95%
Better, but not exactly exciting, especially if there's any significant inflation in the next 5 decades.
The more you mix investing and insurance, the worse the deal seems to be. Most readers of this blog need life insurance temporarily, and should cover that need with a 20-30 year level term policy. A few may need a permanent death benefit, and should use a guaranteed no-lapse universal life policy to meet this need. I see little reason to use a traditional whole life policy. You'll end up with one of two things: A life insurance policy that costs twice as much as it had to or an investment that ties your money up for decades to provide you with a guaranteed return under 2% (with a possible return of up to 5%).
Stay tuned next week for more on Whole Life insurance, including Bank on Yourself and Infinite Banking Concept. In the meantime, comment below! What has the return on your whole life policy been? Are you happy with your policy, or wishing you'd never bought it? It's a controversial topic, no doubt, so keep comments civil and on topic. No profanity or ad hominem attacks.