Whole life insurance can be a good investment for some people, but it’s not for everyone. Unlike term life insurance, which only provides coverage for a set number of years, whole life insurance offers lifelong protection and builds cash value over time.
This cash value can grow slowly, and you may be able to borrow against it or use it for future expenses. However, whole life insurance policies tend to have higher premiums compared to term life, and the returns on the cash value can be less than what you might earn from other investments.
For those seeking long-term stability and guaranteed coverage, whole life insurance might be a good option. But if you’re looking for higher returns and more flexibility, you might want to consider other investment choices.
How Does Whole Life Insurance Work As An Investment?
Just as I have mentioned above, whole life insurance policies offer permanent coverage that builds cash value. When you pay a premium monthly or yearly, the insurer invests a portion in order to give your policy a cash value.
The cash value of a whole life insurance policy grows over time at a fixed rate that your insurer guarantees. This growth is tax-deferred, meaning you won’t pay taxes on any interest earned as long as it stays in the policy.
Once you’ve built up enough cash value, you will be allowed to borrow a loan against it. While you don’t have to repay these loans, any unpaid amounts will be deducted from your death benefit.
It’s important not to borrow too much to avoid problems down the road. If you buy a policy from a mutual life insurance company, you may get dividends based on the company’s performance.
You can use these dividends to pay premiums, buy more coverage, or even cash them in, which will also increase your policy’s cash value.
When Is A Whole Life Policy A Good Investment?
Whole life insurance can be a good investment in different life events and situations. Some of these situations include
You’ve Maxed Out Your Retirement Accounts
If you’ve contributed the maximum to your 401(k) or IRA, whole life insurance can help boost your tax-deferred savings. The cash value grows over time, and later, you can surrender the policy for cash.
Just keep in mind that if you do, you may owe taxes on the gains, and your beneficiaries won’t get the death benefit.
You Have A Lifelong Dependent
If you’re caring for a child with a disability, a whole life policy provides lifetime coverage, giving your family financial stability. Be sure to set up a special needs trust to ensure your child remains eligible for government benefits.
You Want To Help With Estate Taxes
If your estate is large enough to face taxes, whole life insurance can help your loved ones cover those costs. The policy’s cash value can be used to pay taxes without dipping into other savings.
You Want To Diversify Your Investments
Whole life insurance offers stable, guaranteed returns, unlike other permanent policies that can fluctuate with the market. It’s a reliable option for those looking to balance risk in their investment portfolio.
Why Whole Life Insurance May Not Be A Good Investment?
While whole life insurance has some benefits, it’s not the best choice for everyone. Here are some downsides to consider before getting a policy:
High Premiums
Whole life insurance is quite on the expensive side. For example, a healthy 40-year-old man might pay about $7,440 annually for a $500,000 policy, while a woman of the same age would pay around $6,512.
Meanwhile, a term life policy could cost just about $334 for a male and $282 for a female. If life insurance is your main goal, you may be better off with a cheaper term policy and investing the savings elsewhere.
Slow Cash Value Growth
In the beginning, much of your premium goes toward fees and administrative costs, so it takes years, often 10 to 15, to build enough cash value to borrow against. If you’re looking for quicker returns, this may not be the right choice.
Low Returns On Cash Value
The average return on your cash value is only about 1% to 3.5% annually. While the returns are guaranteed, other investments like stocks or real estate could offer higher growth. It’s worth talking to a financial advisor to explore other tax-advantaged options that fit your goals.
Lack Of Control Over Investments
The insurance company manages your policy’s investments, which can be fine if you prefer a hands-off approach. However, if you’re an experienced investor who wants more control, you might prefer policies like indexed or variable life insurance, which allow more flexibility.
Possible Tax Issues
If you withdraw cash from your policy, you may owe taxes, especially if you take out more than you’ve paid in premiums. You could also face taxes if you surrender the policy or take a loan that you don’t repay.
Consult an accountant to understand how these taxes could affect you.
