The truth about whole life insurance
By Jeffrey Reeves MA
This article provides a real life example of a mortgage broker who is attempting to advise someone on which kind of life insurance policy to purchase, despite lacking an understanding of participating whole life insurance.
The italicized responses below are from the broker, and my responses follow.
Purchase life insurance. I call this “income protection.” Only, I repeat, only purchase a term life policy.
Hmmm! The mortgage broker states, “I call this….” So, the millions of successful Americans who buy whole life insurance policies are wrong and the small “buy term and invest the rest” sect of Williams/Orman devotees like this one are right? No! This advice is akin to suggesting a diet composed only of Twinkies and doughnuts would produce optimum health.
The face-value should be an amount large enough to replace income no longer coming in due to the death, or the additional funding necessary to cover the expense of hiring someone to perform the tasks of the dearly departed. If the budget permits, increase the face-value to pay off debts of the mortgage and creditors. The minimum policy should cover expenses to bury or cremate the deceased. Average burial costs are between $6,500 and $10,500, while cremations average $1,250 to $6,500.
Wow! If only the millions of Americans who have purchased whole life insurance policies that actually serve the needs of the family, both during their lifetime and after their death, knew how foolish they have been. After 40 years of helping Americans deal with life and death issues, it is apparent to me that more life insurance is always better than less, and in my opinion, whole life insurance serves best. No widow or widower ever complained about receiving too much money from a life insurance claim.
Under no circumstances should you purchase a whole life, universal life or any other type of policy that accumulates a cash-value.
Yeah, right! More Twinkies. How about following that logic to its ultimate conclusion? Don’t buy a car, lease it. Don’t buy a home, rent an apartment. Why would anyone want to build equity in real property like a home or a life insurance policy? Shucks, why not go for the ultimate? Don’t get married… Following are some of the mortgage broker’s arguments against the purchase of whole life, universal life or any other type of policy that accumulates a cash-value, followed by my responses.
Although rates are better than a savings account or certificate of deposit, they are still low compared to other investments.
When this argument arises, its proponents pull out hypothetical illustrations of future performance. But facts are different than projections. During the past 100 plus years, whole life insurance policies that were issued and maintained produced results comparable to “investments.” (I can’t say the same for univThe tuersal life policies — that’s why I’ve never sold that kind of life insurance policy.) Looking forward using silly assumptions is a form of dishonesty. Any return over 5 percent net of taxes and expenses for an “investment” is unrealistic based on the actual performance of actual investments. That’s not just my opinion, but according to Benjamin Graham and Warren Buffett. One can, of course, use “averages” to “prove” whatever one wants. I can show you how an “average return” of 10 percent per year leads to a total loss of your invested capital.
The interest rate to “borrow” the money is much higher (usually 6 percent to 9 percent). Unlike borrowing from your 401(k) plan, where interest payments go back into your account, these payments go to the institution. Additionally, it could take up to six months to receive your check.
These assertions are incomplete, mixing unrelated issues with the issue being addressed, and are, at best, factually inaccurate.
Policy loans are, in many cases, the least expensive way to finance purchases. Although it is accurate to say the policyholder borrows money from the insurer and repays the insurer, this does not take into account the fact that the cash value of a whole life policy continues to grow and dividends continue to be credited to the policy regardless of the loan. Moreover, the value of the guaranteed cash value increases and dividends — not guaranteed but consistently paid for over 100 years — often far exceed the interest charged. Even some universal life policies have zero cost loan provisions that assure the policy owner/borrower that the interest paid will equal the interest credited to the policy.
It’s unclear where the six months comment comes from. I and many of my clients regularly borrow against the cash value of policies and receive checks in a few days, rather than weeks or months. Since the Great Depression, most policies rarely use a provision that allows the insurer to withhold both cash accumulations and death benefit payments for as much as six months, and only under very limited circumstances. To suggest that is the norm is… well, you put your own name to it.
Finally, borrowing from a 401(k), assuming you are following conventional wisdom and actually risking your future by buying into such schemes, is fraught with dangers — too many for this response. Although your premium does not rise, the portion that goes to pay your premium does because as you get older, the rate increases. Therefore, the portion of the premium that goes towards your cash value contribution decreases as time goes on. Eventually, you are paying premium from your cash value; therefore, your cash value will total zero at some future point in time.
OK, that’s a relatively accurate description of a universal life insurance policy, but does not begin to describe a whole life policy in which the premium, death benefit and cash values are all guaranteed. In addition, the insurance contract, not the insurer, guarantees that any surplus or profit the insurance company earns is paid to policy owners as a tax-free dividend. There are no outside investors in mutual companies.
After the cash value is depleted, the policy could be cancelled (unless you are willing to pay a higher premium).
This applies to universal life policies, not whole life insurance policies. Whole life insurance policy premiums are guaranteed to remain level, the cash values are guaranteed to increase every year, and surpluses are guaranteed to be paid out as tax-free dividends annually. Moreover, this comment doesn’t address the question of what happens when the term insurance policy the mortgage broker recommends renews and the premium goes up 1,000 percent or more due to age.
Upon the death of the insured, beneficiaries receive either the face-value of the policy or the cash value. In order to receive both, the agent needs to mark both on the application. They generally don’t mark both because the policy premium would be much higher.
This refers to universal life policies only. Isn’t it amazing that the author of this response knows how other agents think and even knows their motives for filling out applications?
Whole life policies that are properly structured develop an increasing cash value. I just reviewed a policy that was issued in 1976. The premium was, of course, the same as it was originally. However, the death benefit was seven times the original face amount and the annual dividend was 10 times the guaranteed premium — and rising every year.
“Cash value” policies should only be used to supplement retirement savings after all other retirement account contributions reach their maximum allowed by Security Exchange Commission (SEC) regulations.
I worry about advisors that make assertions that sound like the Ten Commandments. This is another out of context and meaningless comment. The SEC is the puppet of the behemoths on Wall Street and the dolts in Washington, D.C. Moreover, the SEC has no authority or purview relative to insurance companies, and even less regarding how and where you put your money. They are supposed to regulate and control the behavior of folks like Bernie Madoff, Fannie Mae, Freddie Mac and the dozens of other financial institutions that the overreaching federal government either put in jail or bailed out because the SEC didn’t do its job.
Here’s my bottom line: After almost 40 years as an insurance and recovering investment advisor, I have not verified from actual performance any insurance/investment strategy that performs as well as EUREKONOMICS™. During my entire 40-year career and for 100 years before that, not a single American that follows this strategy has lost any money, paid or incurred any taxes on their gains, complained that the cost of their whole life policies was too expensive, or expressed regret that the amount on the death benefit check was too high. Go figure!