Cash-Value Life Insurance Is For Suckers, Buy Term Instead

19 Comments

Being properly insured is part of having your finances in order. Insurance will protect you and your family far better than an emergency fund in the event of a disability, critical illness, or death. Nevertheless, it’s something many young people neglect.

In recent weeks, a handful of readers have approached me with questions about cash-value life insurance. I’m not sure if it’s increasing in popularity, or you simply don’t become a target of insurance salespeople until your late-20’s and early-30’s. Regardless, there seems to be an increasing trend of insurance policies being pushed on millennials.

As you might already know, I’m highly mistrustful of financial salespeople and products. I am wary of financial advisors that push high-fee investments. I loathe mortgage brokers that get people into debt in order to come up with their down-payments. And I deeply dislike insurance agents that wrangle people into expensive policies. If you want to know what all of the above have in common, it’s commissions.
Beware anyone that stands to gain a percentage of your investment when you purchase a financial product, because it is in their best interest to get you to pay as much as possible, not ensure you get what you need.
Spoiler alert for those who do not want to read the entire post below: buy term life insurance, avoid cash-value life insurance at all costs.

The difference between Term Life Insurance and Cash-Value Life Insurance

Term Life Insurance provides coverage over a certain term for a fixed monthly payment. In the event of your death, a beneficiary you designate will be paid out the value of your policy. You are covered for a term, typically 1 to 30 years, and when the term ends, your coverage expires and you have to renew or start a new term plan. The price of your monthly premium is constant for the term, but typically increases with your age when you renew.

Cash-Value Life Insurance is a blended savings and insurance plan. Like Term Life Insurance, your beneficiary will be paid out the value of the plan in the event of your death. However, there’s an added investment aspect. The policy holder pays into the plan, and in addition to being covered for life insurance, a portion of the premiums accumulate as a cash asset. This cash grows tax-free within the policy, allowing the policy holder to borrow against to meet other financial obligations, such as clearing debts or making other investments.
You can read more about Term and Cash-Value Life Insurance policies here. Both types of insurance will provide a financial payout to your designated beneficiary in the event of your death, but one is reasonable for almost everyone and the other is virtually useless.

Cash-value life insurance is not a not a scam, but it isn’t a great financial product

Cash-value life insurance is sold as a tax-free investment vehicle. Usually the salesperson will try to position it as a secret product only the wealthy know about. Heads up: you’re not wealthy enough to make it useful.

You do not need the tax-sheltering advantage of a cash-value life insurance policy because if you’re earning anything measurable in the five-figures or low six-figures, you’re not paying a whack of income tax in the first place. (I know you think you are, but you’re not)

Cash-value life insurance is ridiculously more expensive than term life insurance

It’s not uncommon to see premiums for a cash-value life insurance policy as high as $700 or $800 per month. Even with a good income, this is a hefty bill, and will likely prevent you from being able to save in more traditional savings vehicles, like your retirement accounts. Your cash-value life insurance is not as liquid or as useful as other savings accounts, so if this is the only place you can afford to save, you’re going to run into trouble when you need to access your savings.

The biggest problems with the high premiums of a cash-value life insurance policy is that many young people cannot keep up with the payments. Often they will simply give up paying into the plan, losing both their investment and their insurance coverage, but relieving themselves of the burden of paying hundreds of dollars per month. Talk about no-win.
In some instances, even missing a payment just once in your life, can void the policy so your loved ones can’t collect if, god forbid, something happens to you. You know insurance companies: they don’t like to pay out claims. Signing up for a cash-value life insurance plan is a more serious commitment than your job or marriage — and you never get a sick day! You must pay every month until your plan is paid up, or you risk voiding the plan entirely.

The incredible returns are not guaranteed, and the fees suck

Your insurance agent will brag about the amazing returns of your cash-value life insurance but, like everything else, it is absolutely not guaranteed (even if they say it is). Those projections are estimates, just like everything else. It’s true that the money will grow tax-free, but it’s also true your salesperson will make a killing on commissions & fees from you first. Life insurance agents typically make 80% to 100% in commissions of the first year’s policy premiums.

Remember that next time they tell you about how this will be such a great wealth-building tool for you.

Stay away from Cash-Value Life Insurance, and stick with Term Life Insurance

20- and 30-somethings can get term life insurance at great prices ($20/mo or less usually!) or receive plans from their employers. If you need life insurance, just get an affordable term life insurance plan, and reinvest the hundreds of dollars you’re not putting into a cash value plan into the stock market instead.

And if you really want to get rich, become an insurance agent.

19 Comments

  1. Casey Elliott

    Cash value life insurance will typically return a couple percent in cash values long term (like, after 10 years). Its not really an amazing “investment”. and the cash value isnt tax free, it is tax-deferred. But yes, there are great benefits if you are super rich! Not much benefit for the common folks- if you need lifetime protection go for a term to 100 product. But most people only need protection while they have a mortgage or children so a cheaper term product is great!

  2. Jennifer

    I don’t need life insurance yet as no one depends on my income, but I would love to know more about disability insurance.

    • Lindsay

      I second this comment as I’m in the same boat as Jennifer.

      • Brian

        There is an argument about buying life insurance at an early age because the younger you are, the cheaper your premiums will be. Regardless if you have anyone depending on you or not.
        Also having independent life insurance means you can opt out of the expensive policies on loans/mortgages where the banks are making a killing on.
        Just putting it in perspective, also you never know when you won’t be insurable because of some unforeseen illness, etc.

      • Catherine Chiappetta

        I work in disability claims and I think everyone should have it! If your employer doesn’t offer it as part of group benefits, it can get pricy, but a mixture of emergency fund (3-6 months of income) + long term disability with a 4 or 6 month elimination period is totally worth it. For Canadians, we can get EI disability for part of the elimination period, and the emergency fund can carry you over until benefits kick in. The goal is to have coverage for awful diagnoses that are chronic or progressive, like COPD and MS. Short-term illnesses and injuries can be covered with EI + savings, so a private plan can be cheaper if you pick a longer elimination period. 🙂

    • Harold Grabowski

      Disability Insurance is all about the definition of disability. It determines whether you will receive the benefit. Cheap policies usually mean you wont get paid out.

  3. I lean towards your direction, but perhaps not with the same level of conviction. I find trusting any insurance sales reps to be a risk not worth any potential reward. With all the resources at our disposal, I feel I can determine what it is that I need and where to get it rather than be told what I need and that they are the right person to give it to me.

  4. Kevin Bartel

    Rebuttal
    First of all, I must commend you for your well written post. I do always enjoy reading your posts and look forward to the formal presentation and written content with a perspective different from mass media. For that I thank you.
    Full disclosure on my situation. I am currently an insurance broker and held a life insurance licence several years ago. I chose to let my life licence go to pursue other interests and I am now in the process of re-applying for my life licence. Our family holds a combination of both term insurance and permanent insurance with a cash value. In my rebuttal, I am sharing my personal views of life insurance, both permanent, with cash value, and term insurance.
    Permanent life insurance, with a cash value, has value in someone’s lifetime. Two key factors that were not mentioned in the blog post are taxes and estate planning. Outside of life insurance, there is nothing in Canada I am aware of that can pass to a beneficiary, other than a person’s spouse, TAX FREE upon death. Bank accounts, investments, and any other capital property would be taxed in the estate before going to anyone other than a spouse. Permanent life insurance can address estate taxes that will come due once the estate goes through probate.
    Permanent life insurance with cash value is considered an asset, unlike term insurance.
    I believe permanent life insurance should NEVER be sold as an investment product. That is all I will say about this delicate issue for now.
    Term insurance is not as inexpensive as stated at the end of the post. For example, a 25 year old female and male couple who need $500,000 each in life insurance coverage would pay roughly $68/month in total for a 25 year term policy. $40/month average quote for him and $28/month average quote for her. This is significantly more than the $20 month or less in the blog post.
    NOTE: All quotes I am using can be found at the website term4sale.ca. This is a Canadian site that provides life insurance quotes from multiple companies and represents a fair price comparison of life insurance products.
    Term insurance should NOT be confused with accidental death insurance or mortgage life insurance. These products are completely different as term life insurance is true life insurance.
    When I sold life insurance products, not once did I calculate how much commission I would make off of a sale. Yes, life and accident sickness insurance sales people are paid commission only, but an agent should act with integrity completing a needs analysis with a client and recommending the best insurance solution based on the client’s requirements. I believe a life agent focusing on client needs will find a win-win solution for both the client’s and himself/herself when appropriate life insurance is recommended.
    In my opinion, the best life insurance to offer is a blend of permanent and term insurance. Using the same couple example from above, this couple could have $525,000 in life insurance coverage broken down as follows:
    $500,000 25 year term each – $68/month
    $25,000 whole life paid in 20 years – $30/month for her and $35/month for him
    In this manner, the couple would maintain life insurance for estate planning far in the future and cover the immediate loss if one of the couple were to tragically die.
    Finally, I am not touching the issue of getting declined for life insurance. Not everyone who applies for life insurance will be eligible for it. This is a separate issue and one no one realizes until the application for life insurance gets declined.
    This is just my opinion and something I feel very passionate about. I appreciate your posts Bridget, and your continued dedication to providing financial education.
    Kevin B.

    • Brian

      Haha I should have read your comment first Kevin, before replying to one above it.
      I echo everything you say as well, also having spoken as some that held a life insurance license but doesn’t anymore. I also never calculated how much commission I stood to make when looking at coverage options for clients, I was giving a recommendation that I felt was best suited for their situation.
      I also hold a cash value policy for long term planning, same thing you were talking about but the actual cost of insurance itself is not much more than a term policy would have been so I’m happy with that.
      Everybody’s situation is different, not trying to say one way is better than the other, but I do like the fact that with a cash value policy I’m getting my money out one way or another (either by dying or taking cash out once retired).

    • Catherine Chiappetta

      Disclaimer: I also work in insurance, but in disability claims adjudication.
      I agree with Kevin regarding the blending of two products. My broker helped me design a policy that layers term and permanent products. The first layer is 10-year term, then the second layer is 20-year term and then the last layer is permanent. The investment vehicle was mentioned during our meetings, however it was never a selling point and the broker did mention that it was not a good strategy for me. He simply highlighted the difference between term & universal, and how my young age was a factor to cash in on for universal life insurance. Over the decades, the term layers will expire and I can renew them if needed, based on my health & finances at age 36 and 46. By buying permanent (aka universal) insurance at age 26, I’ve secured a flat premium that will remain unchanged even with inflation. I’ve also locked in the rate of a healthy female non-smoker at age 26 (if I had waited until I had mortgage + babies, my rate would have gone up and I would probably have bought less coverage for the same premium). All in all, I’m paying $42 monthly for $750k of coverage of which $100k is permanent. I find that it’s totally worth it to book an appointment with a licensed pro and get educated to pick the best product(s) for one’s situation.

  5. Giovina

    Without any dependents or debt I don’t see any need for life insurance beyond the one year of salary that my job provides. Is there any compelling reason for a 24 year old single person to get additional life insurance? I figure my funeral costs and so on would be covered and any extra money would go to my sister and parents, but I don’t think I need to sign up for an extra monthly bill for something I won’t benefit from. I’ve heard that it’s best to sign up early and lock in a low rate so I don’t end up paying more later, I’m wondering if that’s valid.

    • Zoë

      Maybe you don’t need it right now but will your situation change? If you plan on having a house with a mortgage and other people who are dependant on you (spouse, kids) then you will need it. And two things that affect the cost – your age and health. So, if you know exactly what your health will be like when you do need insurance (which obviously know one does) then you can wait. Otherwise, you may want to consider insuring your insurability. It would suck to wait and then find out you have some sort of health problem that jacks up the cost or, worse yet, ends up getting you denied for coverage. Disclaimer: I have a license to sell life insurance.

  6. Stephanie

    Generally-speaking, you have “the rule” and then you will always have the “exception to the rule” and the “exception to the exception”.

    The same applies for life insurance. 95% of people are better off with term and the remaining 5% go with permanent or cash value. Some people don’t qualify for term insurance.

    Just like everything in life, you need to do your own research and calculations to see what is best for you. Cash-value insurance is not necessarily an evil product.

    And no, I am not an insurance broker…

  7. Zoë

    Great post but why the hate on for financial advisors? Just like anything where there is a transaction – a person gets paid for the service they provide. How is it any different from what you offer with your awesome courses – your expertise and insight in exchange for money. It business, right? Interested to hear your thoughts.

    • Zoë

      Disclaimer: I have a lic.for life insurance.

    • In my opinion, I think it has more to do with how their fees are structured. If a financial advisor charges a flat rate for service, regardless of any investments you purchase through them, I think that’s fine. Like you said, they provided a service. I think the conflict of interest applies when they are paid based on what investments you purchase. In that situation, you never really know whether they’re acting in yours or their best interest. More than likely, it’s theirs. That argument applies to all salespeople. My 2 cents.

    • I like fee-only financial advisors. Commissions based financial advisors who take a portion of their clients’ investment rarely have their best interests at heart.

      My courses a one-time exchanges for money. I make a fixed amount with each sale, and you get exactly what you pay for. If you’re unhappy with the product, I will refund your purchase. I would never charge users a percentage of their income or investment.

      Good business is serving your customers in the best possible way. I happen to think the best possible way is not to fleece them =p

  8. I think the timeless advice, “buy term and invest the difference” is best for most people. That being said, there are times when cash value life insurance can make sense.