Financial Planning for Businesses

Whole Life Insurance: What’s The Real Rate of Return On This Product?

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Whole life insurance: it’s one of the most controversial financial products on the market and I can understand why. Life insurance agents have pitched this product like it was the holy grail of investments. It gives you cash value, death benefits, and even a suitable replacement for long-term care insurance. Of course, it’s easy to find a lot of criticisms about the policy too – including the claim that whole life insurance has a downright shitty rate of return. A while back, I did a post on life insurance myths and facts, and it stirred up quite a debate and generated no shortage of hate mail. After giving it some thought, I’ve decided that it’s about time to talk about the cold-hard numbers.

Performance of Whole Life

Before I reveal an example of actual performance numbers, I want to make it clear that I am not in any way endorsing the company I am about to put on display. I am not making any kind of recommendation for you to buy their products. This is just for illustration purposes and to be used as a visual aid in presenting my view.

Look at this historical dividend study on Mass Mutual’s whole life product:

whole life
Limited-pay whole life insurance has had a tax-free real rate of return
of 6.52%! WOW!

I want you to take note of the fact that Mass Mutual’s worst performing product is their Convertible Whole Life from the MM Block. The internal rate of return (IRR) is 4.49 percent. The best performing product in this study is the 10-pay whole life. The internal rate of return (IRR) is 6.52 percent, and that’s without customizing the policy for accelerated cash value growth.

OK, what does all of this mean? Internal rate of return is the rate of return after all fees, expenses, commissions, etc. are paid. This is the net or real rate of return on the policy’s cash values. Not bad eh?

But, it gets better. These values are also tax-free returns, since cash values are not taxed when removed from the policy (as long as the policy isn’t surrendered/terminated). Most people would kill for that kind of action, especially if the investment was guaranteed never to lose value (which is exactly what a whole life policy guarantees).

Take note that this is not the “illustrated” rate of return on whole life insurance. This is the actual performance of the policy. I want to stress that point, because there are a lot of folks out there on the Interwebs that immediately start in with “yeah, that’s what they say you’ll earn. But, you’ll never get those returns.” Erroneous! These returns are what the policy actually paid. Even if you did only realize the illustrated rate of 4.23 percent on the 10-pay policy, it’s still not too bad for a fixed-interest product.

These policies were tracked from 1980 onward. It stops at 2008, when the study was completed, but 2009 and 2010 saw dividend payments that are in line with the general trend you see in the study. You cannot predict dividend rates, since they depend on certain functions which are outside of your control. What the study shows is that insurance companies often do not pay what the illustration says they will pay. That’s not to say that they always pay more. Sometimes, they pay less than the illustrated rate.

Is Whole Life A Good Investment?

Some of the performance of your policy has to do with the expectations you set for yourself and for the policy. The performance of the policy also has a lot to do with when you buy into a policy. If you bought into a whole life policy in 1990, then watched as interest rates dropped, your policy values today would be less than what was illustrated in 1990. But, interest rates are low now, and that’s to be expected. You might not like it, but it is what it is. Rising interest rates may allow you to realize that illustrated rate at year 30. For those buying in today, your policy values could be astronomical compared to the illustrated rate.

Thumb your nose at people who say that whole life is, or has been, a shitty investment. I’d say that, today, a well designed dividend-paying whole life policy is an excellent buy.

March 18th, 2011 | by David | No Comments

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