Whole life used to be a pillar in estate and retirement planning
For decades cash value life insurance policies assumed major roles in both estate and retirement planning. The policies offer life insurance coverage that pays money to a designated survivor upon the insured person’s death. They also have an investment account attached to the insurance plan, and the proceeds of the investments can be used to pay premiums, buy additional coverage, or borrow against.
As great as they were when initially introduced, times changed, and term life insurance is now accessible for a fraction of the price of whole life insurance. A solid term life insurance plan costs between 10%-12% of what a comparable whole life insurance plan would cost, but it lacks the investment vehicle that made whole life policies so popular.
So with this new option to consider, what is the smartest approach to life insurance from an estate and retirement planning perspective? Is it better to buy a whole life insurance product or buy a term life insurance product and invest the difference between the term premium and a whole life premium? How can you maximize your legacy, protect your retirement, all while safeguarding your family in the meantime?
Buy term life insurance and invest the difference instead
“Buy term insurance and invest the difference” is a strategy that grew in popularity because it will provide the typical American stronger returns, lower fees, and better coverage than a typical whole life or universal life insurance product. The process is simple enough. A person buys a term life insurance policy and pays a monthly premium. They then save an amount equivalent to the premium they would have paid with whole life insurance in a brokerage account that is intelligently invested.
So how much more money could I have by investing the difference?
Guessing how much money you can make off a given investment is a complicated process because return rates are far from certain, unlike death and taxes. We know that a well-diversified, index fund-based portfolio can be expected to return about 6% to 10% a year before taxes.
We recently compared the cost of term life vs. whole life insurance. The difference is huge. Look at the following two scenarios:
Scenario: Whole life
A 40-year-old male can expect to pay $347/month for a $250,000 whole life insurance policy. After 20 years, the policy will have a guaranteed value of $70,018, and its likely value would grow to $105,721 due to the performance of the investments held by the life insurance policy.
This increased value would boost the death benefit, the amount of money paid out to your family at the time of your death, to $326,352.
Scenario: Term life and investing the difference
In a 20-year- level-term plan, that same man could get the same $250,000 in insurance coverage for $23 a month. That’s $324 a month less than the whole life insurance product.
At a conservative rate of return of just 6% to 10% per year, the buy term and investment difference approach will produce a brokerage account worth about $150,322 to $248,327. That’s money accessible to you while you are still alive or to your beneficiaries if you pass away.
The difference in outcomes is enough to give pause to even the most conservative of investors.