Whole Life vs. Term: Buying Term and Investing the Difference Part I

It’s easy to put off planning for the future, especially when that includes planning for the worst. When getting engaged, the first thought is likely to pop a bottle of champagne and celebrate, not pull out the prenup contracts.

When life’s most exciting moments happen, your top of mind priority probably isn’t life insurance. But major milestones like the birth of a child, marriage, or homeownership might be a good time to reflect on your circumstances and think about life insurance.

Life insurance can get pretty complicated—one of SoFi’s recent surveys found that even among members surveyed who have shopped for life insurance, roughly a third of people debate whether whole life insurance or term life insurance is more appropriate for them.

Before diving into whether term or whole life insurance is more appropriate for your personal situation, let’s start with the basics of these products:

•  Whole life-This type of life insurance has cash value the owner can access in addition to a death benefit that is paid out in the event that the policyholder dies. However, these benefits come at a cost—premiums are generally much higher than a term policy with the same coverage.

•  Term-This type of life insurance policy that only pays a death benefit if the insured dies within a certain time period and does not have cash value that the owner can access. Since there is no cash value and the term can end before the policyholder passes away, premiums are typically lower than a whole life policy for an equivalent coverage amount.

It’s my belief that whole life rarely makes sense when you analyze the data from an unbiased perspective. That said, there are a few circumstances when whole life might be something to consider, including:

  1. You have a loved one with special needs. If you are responsible for supporting a loved one with special needs for their entire life, your primary concern may be making sure you can provide a certain amount of support regardless of when you pass away.

  2. Your heirs will need liquidity when you pass away. If an overwhelming majority of your assets are illiquid (such as a farm, small business, or real estate), whole life insurance might come in handy since it can provide cash to your heirs rather than forcing them to sell those assets on short notice.

  3. You will be subject to estate taxes. If your estate will be above the exemption of $11.4 million per individual, life insurance could be used to fund estate taxes. Overall, fewer than .01% of estates will pay an estate tax, so this one is uncommon.

Outside of those circumstances, term may be the choice people are likely to make. But, it can’t be that simple, right? Yes, it is that simple, but the problem is that there are plenty of whole-life-myths that don’t stand up to the facts.

So let’s fact-check five of the reasons life insurance salespeople frequently use when trying to sell a whole life policy:

  1. Whole life is forever and Term is temporary. Based on the data from the insurance industry itself, an overwhelming majority of Whole Life policies are not in place 20 years after their purchase date.

  2. Whole life is a competitive investment. This will be covered in more detail in the second post of this series (stay tuned!). In short, buying term and investing the difference has shown results with much better outcomes assuming you stay invested for the long run.

  3. Whole life offers compelling tax-benefits. While there are some tax advantages associated with Whole Life, this isn’t necessarily a top reason to take out a whole life policy. Especially considering that a majority of people do not leverage the low cost tax-advantaged ways to save that are already available, like an employer-sponsored 401(k) .

  4. Whole life can be used for almost any savings goal. It can be used to help you build an emergency fund, college fund, or to save for retirement. A whole life plan can offer flexibility, but it may come at a cost. For many people, there are more suitable alternatives for each goal that don’t carry the high costs of insurance or commissions that are often paid to an insurance agent.

  5. Whole life forces you to save for the future. Based on the data mentioned above, most people don’t keep their policy for their entire life, so it doesn’t appear to do an effective job forcing people to save. There are alternative saving strategies that might be more efficient and encourage people to save, such as automating deposits into a savings account or setting up withdrawals directly from a paycheck.

The next post in this series will dive further into the details of each myth and round out the fact-checking.

As with any decision, it’s important to fully assess the facts and understand the perspective of the person presenting solutions. A typical life insurance salesperson could earn anywhere between 30% and 90% commission on the amount you pay for the policy in the first year.

This is a wide range that will vary by company, type of product, and tenure of the agent. But, even at the low end of this range, the insurance salesperson has a vested interest in selling an insurance product that costs more.

Throughout this series, the broad term “life insurance salesperson” is used. Note that life insurance salespeople aren’t the only people who could stand to earn a commission on the purchase of a life insurance plan.

In this case of this series, regardless of what the salesperson’s actual title is—whether it’s financial advisor, financial planner, financial representative, or one of the many other confusing titles leveraged in the financial industry—if they are earning a commission from selling you a life insurance product, we will refer to them as a life insurance salesperson.

Salespeople are a part of almost any industry, and they can serve a useful purpose. But being an informed consumer is also important. When shopping for an insurance policy, try to arm yourself with information as opposed to assuming that a Whole Life policy (or whatever else the salesperson is peddling) is in your best interest based on solely on a salesperson’s recommendation.

As you evaluate your unique insurance and financial needs, keep in mind that SoFi members have complimentary access to SoFi financial planners. SoFi financial planners can help work through the specifics of your situation and help you determine the course of action that works for you.

The opinions and analysis expressed here are those of Brian Walsh as of 07/09/2019 and are for informational purposes only. Views may change as market, economic, and other conditions change. This information isn’t financial advice. Investment decisions should always be based on specific financial needs, goals and risk appetites.