Wednesday, April 28, 2010

Term VS Whole Life Insurance – What Do The Numbers Show?
Craig/FFB, just wrote a great article discussing the differences between Term and Permanent Life Insurance, and to my amazement he was very fair when it came to permanent life insurance. Most financial bloggers aren’t as partial, and spout (without ever running numbers) the standard “buy term and invest the difference” kool aid. So I asked FFB for the opportunity to actually run the numbers between term and permanent life insurance.

Since we need to start somewhere, lets start with our guy who needs life insurance:

Born 7/1/1977 (Middle age between Craig and Myself)
Good Health – Rated Second highest (above standard but below
$5,000/yr Budget
The illustration I am running is from a AAA Rated Company that is older than a lot States. Considering it is an industry leader, it is not the cheapest around. We are going to look at 20 Year Term + Investment Account Returning 4% net VS. Whole Life Product. [Craig: Remember we are considering that a lot of people say to buy a Term policy and invest the difference between the Term and Whole life product rather than buy the Whole life insurance policy.]

Buying 20 Year Term and Investing the Difference

Since the $5,000/year budget buys $495,495 of whole life insurance coverage (we will discuss those calculations below), we will buy that death benefit amount in 20 year term life insurance, and then invest the difference. To purchase that amount of term life insurance costs $450/yr and thus our difference is $4,500/yr.

Year End of Year Investments Death Benefit
1 $4,680 $495,595
5 $25,348 $495,595
10 $56,189 $495,595
15 $93,710 $495,595
20 $139,361 $495,595
Year Cash Value Death Benefit
1 $0 $495,595
5 $16,881 $50,049
10 $50,696 $511,955
15 $88,551 $530,006
20 $142,979 $573,411
So at year 20 you have a couple grand more, and your options

Cashing out the policy – taking the cash and walking
Create a ‘paid up’ policy – Using the cash to buy some amount of
death benefit that where you won’t have to pay anymore premium
1035 (a tax free exchange) into an annuity
Use the Whole Life Policy as a personal Pension
What about a Higher Return? Different Gender? Different Insurance

A change in any of the variables will change the whole exercise. I just think people should actually run the numbers before quoting talking heads.

I will note that I only used a 4% return, because I consider the cash value in the policy safety money (the particular company I used to create the illustration has been well-established in the industry.) If however I were to use 8% Net the numbers would look very different. By Year 20 the End of Year investments would be worth about $220,000.

So you can see, choosing between a Term Life Insurance is not always the better option than a Whole Life Insurance policy. You need to run the numbers yourself for your particular goals.

This is a guest post by Evan author of the Blog My Journey to Millions. Evan is an attorney, admitted to practice in the State of New York and works as a Director of Financial Planning overseeing the firm’s high net worth gift and estate planning. My Journey to Millions covers topics ranging from Estate Planning, his personal financial situation to libertarian views and hatred for big government.


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