There is a constant battle within the financial community between permanent life insurance and term life insurance. Most individuals are best served by inexpensive term life insurance policies that are straightforward: pay a premium, receive a benefit if you die within the specified term. Permanent life insurance, which encompasses whole, universal, and variable products, is much more complicated and expensive and thus needs more guidance before you sign on the dotted line. You will find financial advisors that get commissioned off of the sale of a permanent life insurance policy intentionally pushing the product hard to earn their commission instead of putting the needs of their client first.
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One of the benefits an advisor will tell you about permanent life insurance is it isn’t just insurance — it’s an investment, too! Your permanent life insurance policy is really made up of two portions: the insurance benefit your family will receive when you die, and an investment portion that supposedly fluctuates in the market based on the investments you select. This is how things get very complicated very quickly. When you are just dealing with insurance, be it car, home, or life, you focus on two things: the benefit you receive and the premium you pay. This keeps prices low and transparent, and your decision is usually easy to make.
When you start factoring in an investment portion with the insurance — and most people don’t understand investing to begin with — it can be easy to be duped by the advisor and the insurance company.
Here are 5 reasons permanent life insurance is not really an investment.
Have you ever sat down to buy something that you thought was a simple transaction, and suddenly there are pages of contracts and fine print to read? Do you dive right in or does a red flag go off in your head?
Permanent life insurance is chock full of fine print about commissions, what happens if you cancel the policy within a certain number of years (answer: you lose almost everything you’ve paid into the policy), and what the company isn’t responsible for. Contrast this with a term life insurance policy that essentially states that you pay a certain premium every month, and if you die during the term, they will pay your estate your policy death benefit amount. Term life insurance is cut and dry; permanent life insurance is a mess.
If you opened an investment account at ShareBuilder today, you would be encouraged to set up automatic investments from your checking account into a mutual fund. You might contribute $100 per month to get started. You make it through the first 6 months fine, but something happens in your life and you need to stop making payments. You cut off the automatic payments, but you still own the shares that you purchased over the previous 6 months. Their value is dictated by the share price in the marketplace.
With permanent life insurance, if you stop paying the premiums, you can lose all of the money you have “invested” into the policy. It’s not an investment if you don’t hold an asset or shares.
Continuing with our above example, if you wanted to sell the shares you purchased over the 6 month period of time to cash out the account, you could sell the shares out on the market. With permanent life insurance, you can’t sell your policy to anyone.
Once you sign up for a permanent life insurance policy, it is usually impossible to make changes. You are locked in to the premium and projected rate of return.
This is the opposite of every other type of investment available. If your portfolio is 100% stocks today, and you want to be 50% stocks and 50% bonds tomorrow, you can make adjustments to your account. That’s not possible with permanent life insurance.
Your home can be seen as investment because you can sell it to someone else via the open real estate market. Your stock, bond, ETF, and mutual fund holdings can be seen as investments because you can sell them on the stock exchanges. That’s not possible with a permanent life policy because you don’t hold shares in anything. There is no exchange where the free market determines the value of your insurance. Without a market of some kind, insurance simply can’t be seen as an investment. And with permanent life insurance policies costing many times over the cost of a term life policy, it doesn’t make sense to own one based on it being a potential investment.
Agree or disagree? Please share your thoughts below.
Very good article.
I appreciate the enlightening information about the murky world of permanent life insurance.
Thanks for posting this. I’ve read a couple of life insurance articles lately but they’ve all been very vague. You were quite clear in your explanation.
Kevin, I appreciate your article and I am always open to conversations regarding life insurance. While I agree with the basic premise that life insurance should not be regarded as an investment, I would like to address a few of the statements you made.
First, the characterization of advisors “intentionally pushing the product hard” in my experience could not be further from the truth. While I’m sure there are some who behave in this manner, in my 20 years in this industry, it is hardly a majority. The vast majority of advisors make every effort to do right by their client – and in some cases, the best option for their client could very well be permanent life insurance.
Second, for most people, the basic need for life insurance can be met with term life insurance. Permanent coverage is slightly more complex than term and is generally used in business & estate planning situations. I think to call it a “mess” is a mischaracterization. There is as much fine print in a mutual fund prospectus as there is in a life insurance policy.
Finally, your statement that “adjustments can’t be made” is rarely true. Universal Life is the most popular type of permanent coverage today and it is a flexible premium, adjustable benefit product. If properly structured, people can pay more, skip premiums & reduce the death benefit all within one contract.
Having been in this industry a long time, I am very passionate about what life insurance can do for families & businesses should the unthinkable happen. As I said, I agree with the basic premise that the goal of life insurance should not be as an investment, but I felt clarification was in order.
@Jeff – Thank you for responding in a fair and professional manner. I personally have dealt with both good and bad insurance advisors. You’d be surprised at the length that some would go through to push high commission products. But it is also fair to say that there are good insurance advisors out there (and I do have relatives in the business).
Thank you for agreeing with the premise of this article, and also for your clarification on the type of adjustments possible with insurance contracts.
Life Insurance is simply a business. It is a contract wherein the insurer promise to pay the insured’s beneficiary(ies) in the event of death of the insured, in exchange for payment, which is called ‘premium’. Understandably, no one is too excited to purchase a policy, which, in most cases, the buyer or owner won’t benefit from it, only his designated beneficiaries.
There are some products that life insurance elements and investment are combined, although they might not yield significant returns, they are guaranteed and can be enjoyed by the policy owner, as a living benefit. Surprisingly, in this current worldwide financial situation, that old-fashioned way of investing is getting the upper hand. Many investors now joked around that the phrase “buy term and invest the difference” is now “buy term and lose the difference”! Term insurance should be the first priority if only concern is for protection. However, in the long haul, it would become more expensive than the permanent insurance, because you don’t get any cash value in return year after year, compared to permanent, aside from the fact that you will run a risk of insurability as years go by.
Term and Permanent insurance policies are like renting and acquiring a house. Renting (like term) would be more flexible and less complicated than acquiring a (permanent) house, especially through loans and mortgages, but people tend to acquire properties in every possible way, because they also see it in the long run as an investment. We all know now what happened to homeowners in the U.S. who lost their property due to payment default (aka stop payment). Nobody is insulated from financial distress, so before entering into a contract, be it as a property mortgage or insurance, make sure that you are capable to finance your plans.
Oh by the way, insurance agents get more commission through permanent policy, because they have more explaining things to do (remember, the fine print?) than the term. But the commission pay is diminishing on the subsequent years, and usually nil after a few years, unlike the term where commission is increasing on the succeeding years, because the premium of the insured is getting higher because of age change. So, towards the end, the level of commission earned by the agent between the contrasting policies will become even in scale.
It is not an investment; it is insurance. However, some financial heavyweights are saying that times have changed and the stock market has underperformed. They are recommending that their clients have up to 10% of their portfolio in life insurance.