One of the most common questions about life insurance is whether you should you buy term life insurance or whole life insurance? This article gives some reasons why whole life insurance may fit your needs better than term life insurance. As always, consult with a financial planner.
In almost every corner of the financial universe, we’re told that term life insurance is a better deal than whole life insurance. In general, I agree – I think we all do. But, there are times when whole life insurance actually makes sense.
Based on logic alone, it has to be true. Since each of us have different needs and goals, there really is no such thing as one size fits all. Term might come close, but it’s not the best choice for everybody.
I want to be honest and upfront, I did not come up with this post on my own, it was inspired from Neal Frankle’s guest post on this blog titled, “How Much Life Insurance Do You Need?” Neal wrote a great article about term insurance and how whole life is usually inapplicable stating,
- Only buy term life insurance for income replacement and family protection.
- Think of life insurance in terms of income replacement. How much income will you need and for how long?
Once you determine that, it’s easy to figure out how much you need to buy.
I think it is the word, only, that usually gets me going, but in a good way. It has inspired me to write 6 Reasons when to Use Whole Life Insurance. Why 6? Seems substantially more than 5, but less than those long 10 lists!
Another form of insurance that we are asked about commonly is mortgage life insurance and whether you really need it or not. Check out our post for more information on mortgage life insurance coverage!
When You Truly Need Permanent Life Insurance
One of the fundamental differences of term life insurance versus whole life, is once the term is up, you must renegotiate your insurance coverage. This will leave you with one of five options:
- Renew the current term policy into a new term policy of equal length – with a higher annual premium.
- Renew the current term policy as a one-year renewable term policy – that will keep the premium down at the beginning, but they will increase each year.
- Renew the current term policy, but reduce the amount of coverage in order to keep the premium level.
- Apply for a new policy and risk rejection or a higher premium due to age and/or health conditions.
- Let the policy lapse, and go without life insurance.
For many people, this is equal to playing with fire. Some people actually do need permanent life insurance. It could be that there is a family history of terminal diseases. In this case, the time to get life insurance is while you are young and healthy. Having to renew your coverage every few years could result in complications.
Whole life insurance is true form of permanent life insurance. You take the policy, and once you do, you have it for life. Both the benefit and the premium are fixed for life, and that provides a level of certainty that a term policy cannot.
When you need a forced savings plan
Financial planners always say “buy term and invest the difference.” That’s a winning strategy if you are the kind of person who can save money. But what if you can’t?
Whole life insurance may be a poor investment vehicle, but just about any investment plan is better than none at all. Since a portion of the premium of a whole life policy goes into an investment fund, it represents a form of forced savings.
Term policies have no investment provision at all, which is why they’re sometimes referred to as pure life insurance.
When you’re over 50 – or getting close to it
One of the other fundamental problems with term life insurance policies is that premiums rise as you get older. Sure, you can take a 20 or 30 year term policy, but eventually even that will end, and you’ll be facing higher premiums.
If you feel that you will need life insurance coverage for the rest of your life, a whole life insurance policy can do that.
The trick is to apply for it before the premiums become prohibitive.
You’ll probably want to do that before you turn 50, or develop any health conditions. This is because premiums rise much faster as you get older, or you develop health issues. Once the premiums rise, your best bet is to go with a no medical exam policy, which will still cost much more than securing your life insurance at an earlier age.
Buying life insurance for children
Whole life insurance could be the better choice if you are buying a policy for your children. Since they are so young, the premiums will be extremely low. Add to that the fact that there is an investment provision, and your child will not only have low-cost life insurance, but also a budding investment portfolio.
The combination of permanent low cost life insurance – and the investment provision – can serve them well as they enter adulthood.
You could also take out a term life insurance policy on them, and it will be even cheaper than a whole life plan will be. But once the term expires, they will face the same choices that everyone else does in the same situation. If you’re going to purchase life insurance for your children – and it looks like it’s going to be term – consider adding a convertibility clause to the policy. It will add to the cost of the plan, but it will allow them to convert from a term policy to a whole life policy before the term expires, without requiring a medical examination.
Sometimes, your way of life, including your assets and interests, are the truest determining factor.
Lifestyle Reasons to Buy Whole Life Insurance
If you go beyond the numbers, there are simply times where how you live your life, or what you’ve accumulated, or even what you intend to do later on, which matters more than the dollars and cents of it all. Here are a few of those areas:
- You have a Special Needs Child – The whole argument that your child’s need for a lump sum ends at 18 or 22 is completely and utterly thrown out the window. In fact, it should 1000% be placed in a third party special needs trust.
- You have a liquidity Issue with your Estate – Most people who owe a federal estate tax (the top 2%) or a state estate tax (a heck of a lot more people than 2%) usually don’t have the actual cash to pay for it regardless of how rich they are. Want a cool example? Well it is a cool example for everyone except Joe Robbie’s Family. In 1990 when he died his family was forced to sell the Dolphins because they owed $47,000,000 in estate taxes. Yes that is 47 MILLION that the federal government got a hold of.
- You have a charitable intent – If it makes you happy to get your name on a building for the university or hospital of your choice, you can. And possible for very little out of pocket. Yup, you know what I am talking about…getting a permanent life insurance policy because your charitable intent will not be gone in 20 years. Additionally, depending on who owns the policy, payment of premiums may be an income tax deduction or upon eventual death an estate tax deduction.
- You have family health issues – Most whole life policies have riders that allow you to increase your coverage without additional testing. This could be a huge reason for most people.
- You want additional diversification – I’ll be the first to admit this isn’t a great reason, but this is one of the reasons I received for the purchase of another whole life policy from the client. He watched literally every investment decline in value while his cash portion of his whole life went way up (he is late into his policy). I would never use whole life insurance as an investment, nor should you buy it as such, but this particular man did.
- You own a business and want to take care of succession during life – Picture this…you are running a business with a partner. The partner dies and you now share business ownership with his surviving spouse or bratty children. By using a buy-sell funded with a whole life policy, you could have bought their shares. You get a step up for half of your shares (boring capital gains stuff) and the partner’s family has the liquid dollars they need. Why not buy cheap term life insurance? Because hopefully your business lasts a long long time and now instead of being 50 and uninsurable, your whole life insurance policy lasts until a later age.
So, maybe you actually do a need a whole life policy… now what?
How Much Whole Life Insurance Should You Buy?
This is one of those areas where you need to examine your current and future financial needs before making a purchase. You will also want to examine policy and free insurance rate quotes before making a purchase.
I wouldn’t suggest doing this part on your own. Talk to an advisor.
Editor’s note: This article was written by Kevin Mercadante and Evan, from My Journey to Millions. Evan is licensed to sell life insurance in the State of New York and is licensed to practice law in the State of New York. Check with your financial or legal advisor before making any decisions.
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Marsha Westbrook says
My step mother passed away recently, and my siblings have a question about Credit life on my mortgage, and my dads mortgage. I live next door I have been reading both of our contracts and do not see the words credit life anywhere. Could it be worded different to be hidden from us? I am a widow without benefits, my dad is a widower for the second time, and he has alzhiemers. I don’t know where to go from here. Can you help?
thank you
Marsha Westbrook
Ajay says
Hi Kevin
I do not agree with the forced saving option. In whole life policy, the mortality charges increases like anything when you are getting old.
In this scenario, You should buy a term plan and invest in some ULIPs. There also, you do a bit of forced investment.
Kevin Mercadante says
Hi Kevin – I tend to agree. Most people use the savings – what ever the source – to fund a better lifestyle, rather than for investment. Preventing that from happening seems to be the primary advantage of whole life.
Kevin Mercadante says
AWB – Agreed, life insurance has its applications and there are some ways where it works better than the alternatives.
Kevin Mercadante says
I’m with you in being squeamish about that statement, but a lot of people use the lack of perfection of investments as an excuse to not invest. In that case, a flawed investment is generally better than no investment at all. It may be the move that gets you moving toward better chocies going forward.
AWB says
Benefits of life insurance include no contribution limits unlike 401(K)s and IRAs. Some policies are also creditor protected and can avoid the estate tax while gaining cash value via fund management. Life insurance is definitely a financial instrument to consider in financial planning.
Kevin H @ Growing Family Benefits says
I agree with the forced savings component. The invest the rest crowd rarely does. It sounds good, but in practice people consistently overspend and under save. Automatic withdrawals seem to be the only reliable way to get people to invest, and whole life helps meet that purpose.
Debt BLAG says
” just about any investment plan is better than none at all”
I’m always squeamish about saying this… but it ends up being true more often than I’d like to admit.
Ed says
Brandin sounds like a scared whole life agent. WoodNfish is correct in his post.
Ed says
Term life Insurance offers the same benefits that whole life offers except the premiums are cut in half for the most part. The cash value component is a rip-off that should be outlawed. Let me point out what happens to the cash value when it is use.
1. When you borrow money against the cash value it lowers the death benefit by the amount that is borrowed.
2. While it accrues the CV grows at a nominal rate of return anywhere between 1-3%.
3. You pay it back at about 4-8%
4. When the insured person passes the beneficary is only entitled to the death benefit. The cash value goes back into the insurance company’s pockets! Why would anyone in their right mind put money away for someone else who is not their loved one?
If you are married with children,own a home,have a job with an income higher than $25k a year you are best to buy term insurance for the amount of time that you need it and put money aside in a separate savings program such as a mutual fund that will earn you on the average 9% and upwards. This way you control how your money is managed and if you were to die suddenly your loved loved will benefit by collecting the life insurance AND the savings in your separate account.
woodNfish says
I should elaborate a little more on the fact that WL will never pay out more than the face value of the policy. If you have a $50k policy and you borrow $30k on the “cash value”, you have to pay beack that $30k with interest. Why is that? The $30k is your own money. If you took $30k out of your savings account would you have to pay interest on it? Of course not, so why do the insurance sales weenies tell you it is your savings?
If you dies before you could pay back the $30k, the policy would only pay out the face value of the policy MINUS what they already paid out to you in cash value. You were self insured for that $30k csh value. The ins. companies liability is only the difference between your cash value and the face value of the policy. You will NEVER have a profit from whole life insurance.
Brandin says
I’m not sure what companies you have worked with in the past WoodNfish, but I work with over 11 mutually owned life insurance companies and none of thier policies work the way you describe. I feel you had better educate yourself more on the subject before you spout your ignorance on people, everything you said I can disprove in minutes, on paper.
Audi says
I disagree, people keep talking about WL as an investment and honestly it often can be but the main goal is to ensure a final expense lump sum. In my opinion you should have whole life insurance because you never have to worry about jumping rates, having to qualify for a new term if you live longer than your term. I have a friend who was (in my opinion) crazy and got a 30 year term for a life insurance policy. This ran out when he reached 67 yes he was guaranteed insurable but instead of the $100 a month it had originally cost him to keep it he would be paying almost $600! My 19 year old daughter bought a 50,000 WL because she was so young it costs her about $20 a month. Even if she keeps it for 100 years she will still have a $26000 profit for her family.
woodNfish says
No, you completely wrong. WL does not build value. What happens is that your premiums begin to build up in the policy like a really bad savings account, but there is NO profit. As you pay in, the “savings” are used to supplement the face value of the policy. Whole Life will never pay out more than the face value. In essence you are paying into a program that self -insures you at the end – the insurance company has no liability because they just give you back your own money minus all the money you paid in, and trust me, you will have paid in thousands more than it will ever pay out.
woodNfish says
Whole life insurance is a rip off and nothing more. The only type of life insurance you should ever buy is term life insurance. Universal life ins. is also a ripoff. Do not fall for the idea that WLF or ULF forces you to save and builds value. If you want to build your wealth, invest in stocks, bonds, precious metals and real estate. Only suckers buy WLF and ULF.
AlanC says
Interesting take. I am a very healthy 26-years-old right now. But my father’s side of the family has VERY bad cholesterol and heart issues (in fact, only one male has made it past 70 and thankfully he’s still going strong at 75). My father himself, a former college athlete and never in bad shape, needed triple bypass 6 years ago at 50. So far, my cholesterol readings are great and I do have a healthy mix of my mom’s side of the family in me (which has no cholesterol issues), so I’m hoping that remains the case.
But let’s assume it doesn’t and I someday find myself faced with serious heart problems. Would buying whole life insurance be a good idea? I’d hate to see a 20 or 30-year term expire and have me drop over dead the next day or next year (we all know heart problems can sneak up on victims). Return of premium life insurance sounds gimmicky and unpalatable to me; I want those dollars working for me somewhere else. But maybe I’m missing something.
Evan says
Wow, Alan talk about timing! I actually wrote about that EXACT question last night:
http://www.myjourneytomillions.com/articles/why-should-buy-life-insurance-regardless-of-whether-have-spouse-or-children/
Evolution Of Wealth says
In terms of loans with regards to cash value I think it is important to bring up non-direct recognition. This means that when you take a loan the amount of the loan is not directly deducted from your cash value. This allows the full amount of cash value (loan amount included) to continue to participate in dividends. This would eliminate the biggest expense of a 401k loan, opportunity cost.
Michael @ The Life Insurance Insider says
I too get upset when I hear people saying whole life insurance has no purpose or even Dave Ramsey’s claims that it is a rip off. First of all a product that is designed for a purpose does not inherently rip people off. The agent who sells it for the wrong reason or the company that has hidden fees rips people off, but whole life insurance is term life insurance with a really long term. If you have long term risk to insure and someone sells you a 20 year term policy with rates that skyrocket after the 20th year then that is a ripoff. Yeah, I said. Term insurance can be a rip off too.
Brandin says
I am going to go out on a limb here and say I have been writing whole life policies to folks for years with guaranteed groth and dividend payouts. It offers great asset protection, in some states its 100% protected from all outside sources, including child support enforcement apparently. If structured correctly, and i always do, it pays out in retirement income tax “free.” The savings on income taxes almost always blows most other high risk, fee filled, government controlled slop that traditional needs and goals based planning crams down peoples throats.
Now I am not saying you should completely divest yourself from the markets, but throwing all of your money into qualified plans at work and dabling as a day trader is a HUGE mistake that will cost you dearly. TERM insurance is an expense, and one that by mortality charts you will be about 97% unlikely to ever use. Self insuring is costly not only to the person doing it, but to those that get left behind when the person dies.
I believe in turning yourself into your own bank, keeping debt free for life, maintaining a large portion of retirement in a safe minimal risk place then investing in other plans like IRA’s or a 401k, and protecting what means the most to my family, ME. There is nothing in the world capable of doing ALL of that and providing a great return for the LONG TERM then whole life. I cant speak to well of Universal Life, as I have not been a big fan of those since the 80’s.
To you nay sayers, David Ramsey followers, Suzy Oreman drones out there, go speak to a true financial reresentative who stands to gain nothing without your utter and complete success, and they will educate you on how to create a balanced financial portfolio where protection comes first, then success will always follow.
Peace be with you all
peter t mullen says
aha, the agent makes a lot more money on this whole life insurance for sure. insurance is not an investment but protection when you have a uyoung family. unless ur rich you dont need whole life, you need term life…
My Journey says
DDFD,
Depending on the company you are working with, return of premiums can be guaranteed after 10 or 12 years. So even if you want to walk you can.
DDFD at DivorcedDadFrugalDad says
@ Ryan depends on who you have it with . . .
There will be interest on the loan, but it is usually more favorable than borrowing from a 401(k). 401(k)’s usually have limits on loans and they must be repaid or they are considered distributions. Life insurance loans don’t need to be “repaid,” the outstanding loan is simply deducted from the death benefit payment.
Finally, it should be understood that significant cash value takes a few years to build.
David says
You can custom tailor whole life policies to build cash value quicker than you think and not have it become a MEC. You can use this cash value as your own bank….instead of paying someone else the interest (read finance company) you pay yourself the interest. Thousands of people do this already and they are better off financially. Proper use of Whole Life, that is set up correctly, can literally save people mounds of money over their lifetime. And it can be used as self completing plan…..ie if you become disabled no 401k is going to pay for the funging…..transfer wealth to heirs, charities…as mentioned above. In fact if people knew the secrets of whole life you could buy it in a vending machine and there would be know need for agents.
My Journey says
DDFD,
I couldn’t agree more with you, but when writing this post, I wanted to give ALMOST bullet proof reasons as to force people to think outside the box when they hear that all whole life is evil.
DDFD at DivorcedDadFrugalDad says
Whole Life insurance also provides a pool of emergency cash that can be borrowed against if you have built up enough cash value.
Ryan says
DDFD: I would be careful there, as there are usually fees involved with cash withdrawals.