Insurance is one of the few financial products that most people understand. Whether it’s car insurance, health insurance, or life insurance, the purpose is to protect against loss and transfer the risk (of financial loss) to a large company. Few know what “loss protection and risk transfer” means in real life terms. Ironically, many insurance sales agents do not understand what “loss protection and risk transfer” means, and the result is insurance “solutions” that are expensive and don’t solve a thing.
When I started as a financial advisor, I learned what products paid the most commissions. Insurance was, and still is, number one. Some sales people use the commentary that insurance creates generational wealth, it can, but that’s not the primary purpose. The purpose of insurance is to mitigate the financial impact of your loss of life (and income) to your family.
Whole Life policies in action
Example. Ann is a 30-year old female with excellent health in Pennsylvania. She purchases a $500,0000 term life insurance policy for 30 years. It would cost her approximately $335.00 per year. However, a $500,000 whole life insurance policy would cost Ann $3,345.00 per year. Here’s the benefit of a whole life policy. At age 65, if Ann decided to stop paying premiums, she has two options. First, she can “cash out,” which means that she would terminate the policy and take the accumulated cash value. She would have $174,700 in cash. The second option is to use the guaranteed paid-up option, which means she first would inform the insurance company that she wants to stop paying premiums. Then the insurance company would convert it to a permanent paid up policy which would pay approximately $397,500.00 at her death with no additional payments.
Let’s put perspective on this example. If you put, $3,345 in a cookie jar for 30 years, you would have a savings of $100,350.00. With the above example, the whole life policy would have an increase of $74, 350 over principal. However, if you put $278.75 per month, which is $3,345.00 annually, into an investment yielding 8% over 30 years (compounding the interest once a year), you would have approximately $378,932.34. If you notice, this number is close to the guaranteed paid-up option and not the cash value, the money Ann would have in hand, if she took the cash out at 65.
What’s the difference between whole life and term insurance?
Term insurance pays the face value, or the death benefit, of the life insurance policy if the insured dies during a specified period. As long as premiums, the cost of the insurance, are paid. From the above example, the $500,000 policy amount, is the death benefit, and the specified term is 30 years. The benefit of term insurance is that it is low cost, but the drawback is that it is not permanent at the age of 60. This individual would no longer have the protection of this policy.
Whole life is a type of permanent insurance. It provides lifetime protection, which you pay a predetermined and level premium. Level premium means that your payment does not increase as you get older. The cash value receives a minimum guaranteed rate of interest, and the death benefit is a fixed amount. Most whole life policies allow you to take loans from the cash value. Whole life insurance is the most expensive life-insurance product available for its permanency, level premiums, the building of cash value, and the ability to take loans from the cash value.
Solution– Mixing it up
If you have minor children and a mortgage, term life insurance in the proper amount and a small whole life policy works. For whole life (permanent insurance), I suggest a small policy, of no more than $25,000, to cover burial and related expenses. For term insurance, I suggest that you consider an amount that would pay off your mortgage, other outstanding debts, and provide for your family.
Death creates a financial hardship for many. Because of this, there are Go Fund Me accounts and Fish Frys created to help defray funeral expenses. Don’t do that to your family. Get a life insurance policy.