Term Life Insurance Vs. Whole Life Insurance

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It has been nearly two solid weeks since I’ve paid much attention to this blog now, or any other personal finance blogs, for that matter. Between spending time with my ill grandmother (who is on the path to recovery now, thankfully!), gearing up for my big birthday open house, and studying for my real estate exams, FinanceSuperhero has largely been put on the backburner.

Many years ago, a wise mentor taught me to prioritize my time by asking the question, “What is it time for now?” The past two weeks, it hasn’t often been time for blogging activities.

However, I did find myself drawn into a few articles and subsequent conversation last week. Most notably, J. Money’s post – UGHHH – How Do I Cash Out Of This? – caught my attention. If you haven’t read the post, J. Money received an e-mail from two readers asking for advice regarding what to do with their existing whole life insurance policies.

To summarize: Reader #1 remembered $1,000 whole life policy that her parents had purchased for her when she was four years old in 1971; the policy now has a face value of $1,556.26. Reader #2 shared that her husband has been paying $198 per month since 2002 on a $300,000 whole life policy; to  date, they have paid $38,016 in premiums, and the policy currently has a cash value of $29,100 (a significant loss).

THE ENSUING CONVERSATION

When I read these two real-life scenarios, my initial response was a mixture of sadness and anger. Reader #1’s parents were undoubtedly attempting to do something thoughtful and caring for their child when purchasing this policy, while Reader #2 appeared to be stuck due to her husband’s stubborn and somewhat misinformed line of thinking.

Reading the comments section made me feel better, as most commenters spouted off on the virtues of term life insurance and advised both Reader #1 and #2 to exchange their current policies for term.

One commenter even posted one of my favorite Dave Ramsey rants on whole life insurance:

While I’m at it, here’s another Dave gem on the term vs. whole life debate:

As I read more and more comments, I felt good about the direction and overall tone of the conversation. A majority of the commenters had done their research and determined that term life insurance is a far-more efficient product than whole life insurance.

Then I scrolled down and found a comment from a gentleman named Doug.

DOUG’S COMMENT

In its entirety and without edit, here is Doug’s comment:

So, first, talking about Whole Life as if every policy is the same makes about as much sense as talking about cars as if they’re all the same. Whole Life from one of the major mutual insurance companies isn’t nearly the same as a non-participating policy from a regional insurer. Leaving aside other features/riders.

Second, Term insurance is for protecting your family in case someone isn’t there earning an income, or caring for kids. Whole Life isn’t for that purpose, so of course Term is better for that. Again for a car analogy, a Mercedes S-Class isn’t for hauling dirt, it’s built for other things.

The “right” insurance for a given family’s situation isn’t the same as every other family. For many folks, Term IS the right choice. For others, Whole can have meaningful benefits. Everybody’s different. If you aren’t willing to explore which one you are with an open mind, that’s on you.

For the two situations above, #1, cash it out, #2, like someone else said above, more data is needed, but the most relevant data is, “if I pay my premiums, how much will my cash value and death benefit increase, GOING FORWARD?” Aso with any other investment, the past is an irrelevant sunk cost, only the future cost/value matters.

After reading this comment, I responded:

Just curious, Doug: what would say *is* the purpose of Whole Life vs. Term Life? I don’t see how they are different in purpose, to be honest. And it doesn’t really matter what company underwrites the policy.

I appreciate your attempt at the above analogies, but they don’t stick.

If one is not already in a whole life policy, they should be looking into term. It is the wisest mathematical move.

He responded:

My point above was abbreviated, as I was writing on my phone, and autocorrect had me on the verge of dumping my phone in a vat of hot oil.

To address your statement first, it actually matters a great deal what company issues a Whole Life policy, dramatically unlike Term insurance, where the carrier is of less importance. A _participating_ Whole Life policy from a successful company will return significantly more to its policyholders than a _non-participating_ policy. And since return on cash-in is one of the important features of WL, it makes for a meaningful difference in product value. The design of _participating_ policies matters too – Whole Life is NOT a product anyone should buy online.

Since text is poor at conveying sarcasm, I’ll just state that if we can’t agree on this premise, you shouldn’t read on, because nothing that follows will track for you either.

So, again, for the most center case, the purpose of Whole Life is to allow your money to do multiple things at once. A well-structured policy allows your money to simultaneously act as your emergency cash (over time, as cash value grows), a non-stock-market-correlated investment vehicle (again, with a _participating_ policy), AND provide a death benefit (tax free as long as it’s less than the IRS limit).

Note that for all but the very well-off, Whole shouldn’t be the only ‘if I die early’ policy. It should be paired with Term to have the total death benefit that makes sense for the individual/family.

Most analysis of Whole Life that I see focuses only on the cash-on-cash return of a Whole Life policy, compared to stock market returns (and usually pretty aggressive ones), and viewed that way, Whole is a poor performer. That analysis though, glosses over the death benefit, and the fact that a death benefit check is in fact, money (and tax free to the beneficiary at that). This is of less relevance to a single person, who will never marry or have children. But for married folks, chances are good that one of you will eventually die, and if that happens after a Term policy has expired, well, the surviving spouse gets nothing. With Whole, they get a check. There are also tax advantages on the growth in a Life policy, for those who have exhausted their Roth max contributions, but that’s a relatively small piece of the puzzle.

My car analogy probably wasn’t perfect – a better one may be to compare Term to a Screwdriver – fine tool, does what it does very well. Whole is a high quality Multi-tool – does multiple things very well – but it costs more.

I’m not anti-Term – I’m anti-simplistic analysis. NOTHING is the one right way for everyone. Everyone comes from a different set of resources/debts/assets/income/goals/etc. Excluding tools for success because they’re complex, or because someone else says so (not aiming that at you SuperHero, but some of the True Believers who have chimed in above) isn’t the path to success.

There is a bit more to our exchange, but rather than post it , I will direct you to check it out here (and read much, much more on J. Money’s site).

MY FINAL THOUGHTS

Certainly, Doug raised a wide variety of both points and questions in the aforementioned exchange: death benefits, oversimplification of analysis, returns, and participating vs. non-participating policies.

While I can appreciate that these items may be significant pieces of the puzzle for many people, I feel that a wide-angle view of the term vs. whole life debate reveals that term life is superior for several reasons.

Overall, term life is far more cost-effective. Consider the following data presented by Barbara Marquand at NerdWallet:

	$500,000, 20-year term life insurance policy	$500,000 whole life insurance policy
Men age 30	$246 per year	$5,178 per year
Women age 30	$213 per year	$4,688 per year

As you can see above, a 30 year old male of average height, weight, and good health seeking a $500,000 policy stands to pay an additional $4,932 per year in order to receive an equivalent whole life insurance death benefit when compared with term life insurance. That is 21 times the annual premium of the term life policy. The ratio is similar for a 30 year old female of average height and weight.

What is the benefit? As far as I can tell, the only benefit is that you maintain guaranteed coverage until you die. But this comes at an overbearing cost: mediocre returns.

While many whole life companies tout 5% returns, which are also ho-hum, in my opinion, an article at Wealthpilgrim shows that the rate of return on a whole life policy is generally closer to 2%.

In my opinion, these types of returns showcase what I believe to be an important truth: One’s investments may function as insurance, but it is backwards to think that one’s insurance should function as an investment.

At the end of the day, term life insurance is vastly more affordable, and if the premium difference is invested wisely, the returns will far exceed the cash value of whole life insurance.

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Readers, what are your thoughts on the term life insurance vs. whole life insurance debate? Do you think whole life insurance is a reasonable estate planning component for certain individuals?

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