Example of When Whole Life May Pay Off

I've posted many articles (like the one yesterday) giving examples of when cash value life insurance isn't a good investment.  To be fair and not entirely one sided on the topic I figured I should really talk about the benefits of cash value life insurance.   One reason for whole life insurance that I've often seen cited is that it can help shelter your assets from estate taxes.  So lets talk about that.


I found this article Insurance: When Costly Insurance Makes Sense on Forbes from 1998.

They say that generally whole life is a "bad buy" but that there is an exception: "You might find yourself in the exceptional category if you are a prosperous middle-aged saver looking at a policy primarily to transfer wealth to the next generation."   In other words estate planning for people with higher wealth levels. 

One of the key benefits for investing in cash value insurance is that it can help handle estate taxes.  So this can help you pass on your giant pile of money to your heirs when you pass away at a ripe old age.

The Forbes article gives an example comparing the two options of buying a whole life policy versus "buy term and invest the rest".   

The whole life policy: "Say you are a healthy, 50-year-old man who wants to create a fund, worth $1 million immediately, to help pay estate taxes at your death. The premium for a typical whole life policy from a top-rated mutual insurer, with an initial death benefit of $1 million, would be about $24,000 per year, says Ratner."


Versus the "buy term and invest the rest" strategy:
"The alternative strategy is to buy a cheap term policy and invest the balance of the $24,000 in a conservative municipal bond fund earning, say, 4% per year on average. That account would grow to about $1 million by age 77. If you die then, your heirs will collect that amount plus the $1 million death benefit from the term policy. If you live, you could forgo insurance and probably maintain a $1 million-plus investment account with modest growth."


In their example the whole life policy would do better in the long run:

"Those numbers sound okay--but a whole life policy would probably beat them in the long run. Ratner's projections of likely insurance policy dividends say that if you paid the same $24,000 per year into whole life--and recycled dividends back into the policy to increase the death benefit--the death benefit would slightly lag that of the term insurance/investment combo until age 68, then would overtake it. By age 77, the whole life policy would pay $2.3 million, or nearly $300,000 more than the term/fund combo. A low-load policy would provide substantially better returns. With the same premium, you would buy a bigger death benefit over time--about $110,000 bigger by age 69."

Now there are some qualifiers to this comparison.  They are using municipal bonds for the investments when buying term life.  Municipal bonds are a very conservative and safe investment but they have relatively low returns.   If you wanted to take more risk your potential returns are greater.   I think their comparison is good cause the returns of a life insurance policy are comparable in risk and return rates to municipal bonds.   And they point out that : "If covering a sizable premium becomes difficult in a policy's early years, whole life's inflexibility will hurt you."  In other words if you are for some reason unable to make the policy payments and have to cancel the policy early then you'll take a big loss compared to simply saving the money in bonds.


This all hinges on the need for estate planning to handle a significant estate with the purpose of avoiding estate taxes.   Over 99% of people do not pay estate taxes, so this really only applies to less than 1% of the population who are the most wealthy.   If you aren't a multi millionaire then this benefit of cash value insurance isn't going to do you any good.   If you are very wealthy then I'd recommend you talk to a qualified estate planner to figure out how to best handle your estate.   It is possible that cash value life insurance could help you with your estate planning if you're wealthy.   But please don't get your estate planning advice solely from an insurance salesman.