In this episode, Scott & Nikita discuss at a high level what the differences are between "Term" and "Whole" Life Insurance policies.
This episode covers:
Our recommendation is to consult with a "fee-only" advisor if you are looking for personalized guidance on this, since they would not be earning commissions on what they sell to you.
In this episode, Scott & Nikita discuss at a high level what the differences are between "Term" and "Whole" Life Insurance policies.
This episode covers:
Our recommendation is to consult with a "fee-only" advisor if you are looking for personalized guidance on this, since they would not be earning commissions on what they sell to you.
How's it going everyone. Welcome to the 3rd Decade podcast. I'm Scott Bennett.
Nikita Wolff:And I'm Nikita Wolff.
Scott Bennett :And today we're gonna do a real brief overview of life insurance/ We're gonna stay really high level in hopes of answering some of the questions that we get quite often from participants of the program, and questions that we've seen some confusion around life insurance. And we say that knowing insurance can be pretty confusing and there is actually quite a lot of variations and factors going into policies. So with that in mind, I do think that it will be helpful to keep pretty high level. If you have some more in-depth questions, I think this will be a good starting point for a lot of people to see.
Nikita Wolff:So Scott, I really wanted to, to start off the episode, just at the highest level, basic question of being, what is the difference between term and whole? I feel like you see both being offered. I know I, have a few friends who seem like they're enrolled in something. That's not exactly term life insurance, but I'm not s ure if it's whole, so I'd love to know kind of the difference between the two of those.
Scott Bennett :Yeah, it's a, it's a really good question and, and really important to start. Um, quick note, there are also additional components and options when it comes to whole life policies, um, like universal whole life and variable, whole life policies, but we're gonna stick to separating term from whole and this episode, mostly those other ones can get pretty complex and, uh, pretty in the weeds. We're gonna keep it high level. If you find yourself interested or think, or you've been approached or thinking about a universal whole life policy or a variable whole life policy, um, as opposed to just traditional whole life or term insurance, it's probably a good idea to seek out the, the advice of a fee only financial planner, somebody who is not earning commissions for selling you a policy. I think that's one way that people can get caught up in some life insurance policies that might not be best for their situation, in that they're talking with some, somebody who's earning a commission for selling that policy. So back to your original question of term versus whole life, I'll start with term cuz that's the easiest. And it's also the one that we see the most, uh, making the most sense for 3rd Decade participants almost all of the time. Now I say almost there's always caveats, but term life, the insurance lasts for a certain number of years or a set term. If you don't die during the year set out of the policy, let's say you sign up for a 30 year term life policy. And when you're 20 years old, if you live until 51, you don't get the benefits of that policy. That policy goes away and you don't get the benefits. So these policies are typically more affordable than other type of life insurance. I'll use my, my own example here, uh, cuz I think that might be helpful when my wife and I had our first kid, we realize we, we need some, some income protection, and replacement in case something happens to us. So I, I signed up for a term life insurance policy got a million dollars. So if I die within the terms of the policy, my family will get paid out a million dollars to help within income replacement and retirement savings and things like that. And that costs me$35 a month. Now it's variable in terms of how much your, your policy's gonna cost. They come out and they do a quick physical on you. Ask you a bunch of health questionnaire stuff. If you smoke, that's gonna put the, the cost up more, basically anything that increases your likelihood of passing away within the policy is gonna make the policy a little bit more expensive.
Nikita Wolff:So someone in their fifties would pay more than someone in their twenties.
Scott Bennett :Definitely. Yes. Okay. And, and someone in their fifties might not even get a term life policy. Uh, okay. You know, there, there is the term uninsurable. Some people might be uninsurable, meaning that they have too many preexisting conditions. Whereas the company themselves deems them uninsurable, they cannot insure them because it's too big of a risk to the company. Uh, because their likelihood of dying is too hard. It's or too high. It's pretty dark, but it's reality. Uh, and that people need to know that that that is a factor. So usually of people use term life insurance for income replacement, both spouses working and, and you're relying on the income and something happens to them. You can replace it or debt payoff. If you, if you have a s hared debt with somebody and let's say a mortgage, maybe it's not a, even a spouse, you share a mortgage with somebody, something, if you're rely on that person to pay half of the mortgage and something happens to them, they pass away, you could be underwater on your mortgage. So that's usually what term is used for. Whereas if you have a 30 year mortgage, you could get a 30 year policy to help cover the terms of that mortgage.
Nikita Wolff:If you single and let's say in your twenties and good health, can you do a term life insurance policy and select a sibling or a parent or a friend as a beneficiary?
Scott Bennett :You can. Yeah. Good, good question. You can select anybody. Um, you, if you're buying a term life insurance policy, you can select anybody to be your beneficiary and there's contingent beneficiaries as well. Um, in those policies, we, I think a good rule of thumb when thinking about term life insurance. Um, and because it's not just for my typical example, you're married with, with kids, right? It is for, if you have someone else relying on any source of your income in a big way, it's, it could be a good idea to look at term. So let me say that again. If you have somebody else relying on any source of your income, it, you should start the process of looking at term and getting quotes, um, to replace that income for that person. So some people are taking care of parents, um, and, and things like that, or are sending money, home. If they're, if they're not from du us, uh, could be a good idea to look at, to look at term, uh, people are relying on your income. So that's, and, and it's really straightforward. It's true life insurance. It's, it's kind of insurance in, in the purest form in that if you die, you get the payout or your, your family or whoever your beneficiary is gets, the payout. If you, the death, benefit is what it's called. If you don't die during the term,<affirmative> that policy goes away. Now you can extend the policy. Let's say you have a 20 year policy and you get to 15 years and you say, oh, I want this for 15 more years. It is gonna be more expensive though. Um, so, know that and, a nd sometimes t hey might say no, so you can extend them.
Nikita Wolff:Can you take out a life insurance policy on somebody else?
Scott Bennett :Yeah. People do all the time. It's, it's not, um, it's not as common with term life insurance, but yes, there, there are times where, uh, it's, it happens a lot in like the business world. Let's say if you have a, business partner and, um, and something happens to them and you invested in this business and stuff, you could say, I'm gonna take out life insurance on this person to, pay out, uh, my, my share of the business, uh, stuff like that. So yes, you can. U m, it's usually best to that person to know, and, a nd, a nd things like that.
Nikita Wolff:Yeah I would feel so weird if I found out someone else had a Life insurance policy on me.
Scott Bennett :That wouldn't h appen like that. Yeah. I t, wouldn't h ave happened like that. There a re protections in place and stuff. O kay. U h, to make sure that wouldn't happen. U m, now, now back to whole life, a nd, this is a little bit more, more complicated, also called ordinary life insurance. It's kind of a little bit, I said, term is, is a p urest form. Whole life is what most people think of when they think life insurance actually, especially historically. Um, i t's exactly how it sounds. You have the policy for your entire life, as long as you continue making the premium payment. So you si gn u p for a certain premium amount and a certain death benefit. So we'll use a million do llar d eath benefit. Again, as a e xample, that premium is going to be much higher than, u h, y our term life insurance premium, because it's not for 20, 30 years, it's for your entire life, no matter how long you'd live. So obviously the younger, the policy owner is the less likely they are to die. So the premium should raise the older and older, the person gets that would make it almost impossible to buy life insurance, if, and, and really unaffordable. So life insurance companies keeps the premium at a, at a level by charging a premium that, and the early years is higher than what it's needed to pay the claims of the, of the insurance company. So what they do is they charge you a set premium based on your age, based on the death benefit. And that premium is higher. Again, it's, it's much more expensive. Um, and what ends up happening is they invest that money and use it to supplement the level premium, to help pay the cost of insurance for older people. So you're, it's called a cash value. So you're paying your premium. Let's say it's a hundred dollars payment that you're making a month towards your premium of most of that money. And the first few years is actually gonna go to commissions and fees for the policy. Some of will go towards the premium itself. And then after a few years, you'll start building up, what's called the cash value of the policy. Um, so the difference in the premiums goes to the cash value. It's basically a separate savings account. It's an investment vehicle for some people is, is how to look at it. Um, they typically grow a study was done into these typically grow around one and a half to 2%, those cash value plan. So you're, you're paying your premium. Um, that's, that's a higher premium than your death benefit even is. And it's, it's going into a cash value. That's growing around one and a 1.5%f to 2%.
Nikita Wolff:I mean, that's, that would make me think it's rarely a financially beneficial thing to put your money towards that rather than a stock portfolio, that grows 8%. Cause that's, that sounds more like the returns of bonds,
Scott Bennett :Bonds, and, and even, you know, they've been compared to some savings account. So, in terms of that, it, it is, um, if, if the goal is investing for you know, of that money, um, you're, you're probably better off, you're gonna pay less fees, less expenses investing that money yourself instead of kind of cage that investment within a life insurance policy.
Nikita Wolff:I'm guessing you also have more say over how it's invested is that right?
Scott Bennett :Yes. 100% and a lot of whole life policies you have no, no. Say now I touched earlier on universal life, variable life. Those, you know, you can have say they're sometimes attached to indexes, um, and, and the stock market. So let's say there's a, there's a, a, um, variable life policy that is tied to the S&P 500 index. They usually have caps and bottoms on them, but they, they, could say if, you know, you'll never, if the S&P 500 drops below 20%, you'll, you won't have to pay that. The, the least you can lose on this is zero, but if it does 20%, the most you can make on it is 5%. Um, you know, that's just an example. Uh, they're all very different and can get pretty confusing as I said, but it's good to know in those, there are some other options and you might get approached again, you're using life insurance as an investment, um, which, you know, it, it, it's a lot cheaper to keep those two things separate, um, another quick heads up about whole life. So you build up this cash value and it's basically, it's your money c uz you're paying the premiums in it. Y ou're, you're building up. And, a nd t hat, that pot of money can get, can get pretty large because as I said, the difference in the premiums that are needed to pay the policy itself, u m, versus the premiums going that's, that's, what's going into the cash value account. If you die, your beneficiaries, get the death benefit, right? They get that death benefit that they do not get that cash value. So they get the benefiy death benefit, b ut the cash value goes away because they're saying, well, cash value i s part of the death benefit.
Nikita Wolff:So how does the cash value, like why I, how can you benefit from having that at all? Is that something you can pull from if you need it?
Scott Bennett :Yeah, you can, you can borrow from it. S o you're borrowing from it for a, u h, a fee, u m, and, a nd interest. And you can also, another thing about cash value is once the cash value reaches a certain level, it's actually t he law that insurers have to give you the option of taking the cash value or continuing on with the policy. Right. So, o kay, so you can say, oh, my my death benefit was a hundred thousand dollars, right? And I've been paying on this policy for 20 years and the cash value h as t o$50,000 instead of continuing to pay on this policy, I'm gonna take this cash value and, and dissolve the death benefit. Then the death benefit goes away. U m, so you have to compare what's my c ash value compared to the death benefit of the policy and make those distinctions, u m, when making t hat decision. S o yes, it can get very, very complicated, a nd it can seem like, oh, what what's next? What do I do next in terms of, in terms of this? U m, because there i s an investing arm to it and w hat the investments, again, usually tied to higher fee products and things like that.
Nikita Wolff:So what happens if you miss a premium payment, say you go through a period of time where you're unemployed and really struggling, like what happens to that policy at that point?
Scott Bennett :It depends on the type of policy. And, and it depends on, the rules of that policy. Usually there is some leeway you have to be, you know, you have to communicate and stuff like that, but some I've I've seen are, are really straight. You miss a payment, that policy is dissolved. And now if you're in a whole life policy, you, get, you could get the cash value back, right. Because you're basically dissolving the death benefit, but who knows what that cash value is.
Nikita Wolff:And it probably would've been worse when it was all said and done than if you had just set aside a hundred dollars a month or whatever your payment was and just saved it because you're probably paying fees out of that.
Scott Bennett :Exactly. And, and, um, I mean, it depends because if, if you sign up for a whole life policy and at 25 and, and, and you're paying those premiums, although they're a lot higher and you die at 28, unfortunately, uh, you, are gonna get that death benefit and it's a, it's a large death benefit. So there is an insurance aspect to it. Insurance is a part of it. You're getting life insurance. You just would probably be able to get that same. You would be able not probably would be able to get that same amount of life insurance. If that's the main goal of the policy is life insurance. You'd be able to get that for a lot cheaper with term. Um, there, you know, the kind of rule of thumb, it's obviously different because premiums c hange depending on people, but, u h, it's kind of estimated that$7 i n premiums for, for a term li fe p olicy. If you paid$7 for a premium to get a certain death benefit would cost somebody about a hundred dollars for the same death benefit in whole life. So quite a lot more expensive.
Nikita Wolff:Wow. Wow.
Scott Bennett :And, again, they'll say, well, you get a big portion of that back with the cash value. Um, it takes some in time because the first few years are usually going to commissions and fees and expenses. However, that difference in premium, some of it will start building up the cash value of the plan. You can see how cash value start, start getting
Nikita Wolff:Up there. That tells me that if you were saying that your policies$35 a month for your term life insurance, right. Mm-hmm<affirmative>, um, that would be$500 a month for a whole life policy
Scott Bennett :For a million dollars in whole life. Yeah. T hat, that's what those numbers say. You're doing the math, right. I have not priced out whole life for, u h, you know, I think I was 28 at the time. I got my term life for a 28 year old, u m, relatively healthy, no l ong t erm conditions or anything like that. I don't, I don't know what that would be, but I do know they are much more expensive. And, a nd that's what that said. Like, that's kind o f a, a rule o f thumb. Now, if you're thinking about both get quotes for both right. And understand them, just do not. U h, I think what, what the main thing we're trying to avoid here is, a nd c uz i t, it happens a lot people, u m, especially young people. I think, you know, it is a good career and a good job to go and work for a life insurance company after college and part of their job. I t's a sales job. So they're gonna reach out to family and friends and people and say, Hey, here's this great policy. Let me tell you all of the benefits. We're not saying those are bad people whatsoever. U m, it is more that you have to understand what's best for you. And you have to, to know all of the different factors and do the research on it.
Nikita Wolff:<affirmative> now, if there was a person that you would say would benefit from whole life, who would that be? I know more often than not whole life wouldn't be recommended across the board, but I know there are some examples where you would, who would that be?
Scott Bennett :The argument could be made if you have somebody who's gonna rely on your income forever. So like your term or end in terms of, like a disabled child or something like that, kn ow t hat that you would have that benefit forever. And, and there, there is s ome benefit to that, you know, for, the standard case, like my wife and I, we ki nd o f s aid when our girls tu rn 1 8 or, an d i n college and a little bit after that, we hope to have enough in o ur accounts and our retirement accounts and stuff like that, to be able, something ha ppened t o one of us to be able to live on a single income. Um, n ow if, if we said we're gonna have to rely on one of, or the ot her's i ncome for the rest of our lives, that's where whole life could come into play. But you know, also be aware of the different, different savings vehicles and stuff like that.
Nikita Wolff:Okay. So this could also be then for a spouse who's unable to work indefinitely.
Scott Bennett :Yeah, it could.
Nikita Wolff:A dependent.
Scott Bennett :Essentially. Yeah. Sometimes there, sometimes there as well, if people are, I, I talked to a couple recently where one of them was not insurable and that was a big, and they were relying on a portion of the income because of some health problem. That was a big risk. Well, part of their financial plan was just saving more into an accessible account. Right. We talked about the, the cash value earning 1.5% to 2%. You can get those amounts by, uh, those returns by and investing pretty, um, pretty conservatively and just building up a much bigger emergency fund, uh, to where hopefully that person lives for a long time. And, you've built up that emergency fund now where it gets into an issue as if that person passes away at a young age. And now you're, losing out on the income also it's if you're relying on somebody else's income, and they can't work already, that becomes a hard argument. Right.
Nikita Wolff:So I think that answers most of the questions I have. Scott, I appreciate you going through the details of this, u m, w ill include a few resources in this episode for anybody looking t o learn more about it, but thanks for your time.
Scott Bennett :Yeah. Thank you. And, and good questions. And I think, again, just for anybody listening, we, we stayed really high level here, the basics should be. If you're really thinking about this, know that it can be a pretty expensive decision and they're, they're not as, you know, easy to get out of and things like that as well. If you, if you do make that decision, so go into it knowledgeable and asking questions and upfront, uh, just to make sure you're, you're getting what's right for you and your family.
Nikita Wolff:Yeah. Yep. And read the fine print<laugh> yeah, for sure. If we've learned anything, let's read that for sure. Alrighty. All right. Thanks. Have a good
Speaker 3:Week. And.