While the stock market is jittery right this moment, my entire life cash value continues its steady climb. In all my 20 years of financial advice, whole life insurance has been one of the most valuable and overlooked financial planning tools.
Insurance for your whole life
Whole life insurance, as its name suggests, is life insurance that will stay with you throughout your entire life. While term life insurance only covers a certain amount of time, such as 20 or 30, it then expires. Whole life insurance is a fixed premium policy that doesn’t increase in price. While it is more expensive than term life insurance for the same amount, whole life has a savings component. Your annual whole-life premium is used to pay for insurance. The balance of the premium goes towards investments in conservative fixed income investments that the insurance company manages. The “cash value” is the amount of money that has been invested.
Two parts make up the cash value of the whole-life policy. The guaranteed value is the return of your premium over time. A non-guaranteed price is the guarantee value plus dividends. More on dividends later. You can access the cash value at any time and for any reason. The death benefit is deducted from the loan if it is not repaid. Let’s take, for example, $50K of my cash value. Withdrawing the money is income-tax-free. The unpaid loan will reduce my death benefit if I don’t pay it back. A $250K death benefit would be reduced by the $50K unpaid loan and the accrued loan interest. (The interest rate on loan withdrawals can be variable, but is usually comparable to other secured loans such as home equity loans.
It’s all about the Dividends
If you purchase a whole-life policy, your insurance carrier may credit your policy with a dividend at year’s end. Dividends are simply a return on your premium. If the insurance company manages expenses well, they might refund some of your premium in the form of a dividend at the end. Dividends are reinvested in cash value. Dividends cannot be guaranteed and may fluctuate from year to year.
- Forced Savings Account
My experience shows that most people aren’t doing a good enough job saving. It can be difficult to save money consistently over time. There are always things that happen. A premium for whole-life insurance must be paid. This is in contrast to saving in an IRA which can be done at your own discretion. There are a few things that can happen if you don’t pay the premium. The policy will be placed in a grace period of 60 days. The policy can borrow cash from its cash value to cover the premium if the premium has not been paid within 60 days. The policy could default if there isn’t enough cash value to cover the premium. It is crucial to fund the policy, especially in the beginning years when cash value is low. Whole life is what I call a “forced saving account”. Every month, I have to pay the premium. Part of this amount goes to the cash value. Benefit #1: Whole-life insurance is a disciplined method to save for the future.
- Protection for the long-term
Life insurance may be needed or desired for a longer period of time than the term insurance. For example, if you have a mortgage, your whole life insurance may still be useful. The death benefit can be left to your children, grandchildren or charity if you self-insure. Remember that all life insurance death benefits are not income taxed to the beneficiary, unlike IRAs or 401(k), making it a tax-friendly way of leaving money to the next generation. Benefit #2: Whole-life provides long-term protection and is an efficient way to transfer money to the next generation.
- Your asset allocation includes the cash value of a whole-life policy.
The whole life cash value is invested into a large pool Treasuries, Corporate Bonds and Guaranteed Investment Contracts. Whole life is a part my overall asset allocation. The cash value of the whole-life policy should be added to the 20% if I want to have 80% equity and 20% fixed income. A whole-life policy’s cash value may perform differently to other bonds, which provides another layer of diversification. Benefit #3: Whole-life insurance can diversify your portfolio by being a part or all of your assets.
- Retirement Income Planning
The Roth IRA offers two tax benefits for whole life. Both the dividends and earnings are non-taxable. Qualified withdrawals from a Roth account are exempted from income tax. Drawals from whole-life policies are treated as loans and exempted from income tax. Repayment is required for whole life loans. As explained above, a whole-life loan that is not paid is deducted from your death benefit if it isn’t paid.
- It’s all about riders
Two optional riders are usually available on whole life insurance policies. The “disability waiver premium” is one. This rider allows the insurance company to allow the entire policy to continue as normal if the insured becomes completely disabled. The definition of total disability is different, but it is usually a severe disability. The premium is waived, dividends can continue accruing, and the death benefit may grow without creating any loans. This rider usually has an age limit, so premiums can be waived up to age 65.
The “long-term care rider” is the second rider. This rider allows an insured to borrow against the cash values a set amount each month to pay for home care or assisted living facilities without having to take out a loan. You will need to be certified by a doctor that you are eligible for the care. This could mean that you are unable to walk or bathe on your own.