Sunday, September 16, 2012

Insurance Part 6a: Life

Part 6a: Life

By Keith Bunn Jr.
September 16, 2012

I have said it many times on Facebook, Twitter, and even on here that having Life Insurance is extremely important if someone counts on your income to survive!  And yet 30% of Americans don’t have it.

The purpose of Life Insurance is to replace income due to death. But the big question is, what kind do you get? The market is flooded with all kinds of different types of policies and it’s hard to figure out which ones are the good ones and which ones are bad. So let’s go over them.

Term vs. Cash Value

There are generally only two kinds of Life Insurance policies out on the market today, Term Insurance and Cash Value Insurance. Cash Value can also be called Whole Life, Universal Life, or Variable Universal Life. Term insurance is always called Term. The differences between the two are HUGE.

1.    Term: Term Insurance is for a specified time or term. If you have a 10 year term policy, you only have the policy for 10 years. 20 year term policy, you only have the policy for 20 years, etc… it has no savings accounts built into it and it is much cheaper than the Cash Value policies.

2.    Cash Value: Cash Value insurance is a continuing policy meaning, as long as you don’t cancel the policy and keep paying the premiums, you will have the policy as long as you live. It cost much more than Term policies because it has a savings (cash value) account built into the policy.

Looking at the two types like that, it’s almost like a no brainer on which one is the best kind to get. In fact, a lot of insurances companies that sell Cash Values polices compare the two like this. Getting Term Insurance is like renting a home, whereas Cash Value is like buying a home. Again, kind of like a no brainer. Let’s look at it a different way.

Let’s say a healthy 30 year old male buys a $250,000, Cash Value policy. His monthly premiums are $178, which includes paying into the cash value portion. By the age of 50, the cash value will have built up to $34,483 and by 70 it would have reached $124,041. Not too bad huh?

Now let’s say the same guy buys a $250,000, 20 year Term policy instead of the Cash Value. His monthly premiums are $13. That’s a difference of $165 per month. And then let’s say he took the difference and invested it himself into a decent Growth Stock Mutual Fund that gives him an average rate of return of 12%. By the age of 50, that investment would have built up to $164,859 and by 70 it would have reached $1,960,603. WOW! Almost $2 million! That’s a huge difference!!

Both examples the guy was spending $178 per month but the outcomes are totally different. It looks like it’s not so much of a no brainer after all. Now let’s get really crazy!

Let’s take the same guy, but instead of buying a $250,000, 20 year Term policy, he buys a $500,000, 20 year Term policy, twice as much. His monthly premiums go from $13 to $21. And he invests $157 per month instead of $165 into a decent Growth Stock Mutual Fund that gives him an average rate of return of 12%. By the age of 50, that investment would have built up to $156,866 and by 70 it would have reached $1,865,539. The end result is not quite as much but you have to remember that you have doubled your policy amount.

$250,000 + $1,960,603 = $2,210,603 compared to…

$500,000 + $1,865,539 = $2,365,539.

Now if this doesn’t convince you that Term Insurance is an all-around better buy, maybe this will. Taking the $250,000 Cash Value example from above, let’s say the guy dies at 70 years old. How much do you think the beneficiaries get? They get the face value of the policy, $250,000. You want to know where the $124,041 went that he had in the cash value portion of the policy? The insurance company keeps it! Where in the Term policy, you get the face value of the policy, the $250,000 or $500,000 in our example plus what was invested. How does that sound?

The only people that think these Cash Value policies are any good are the ones who sell it because they make a lot of money doing it. Money Magazine, Fortune Magazine, Kiplinger’s Magazine, and Consumer’s Report all say that Cash Value policies are the most expensive and less useful forms of life insurance.

“The right type of life insurance can be summed up in a single word: TERM.”
-Smart Money Magazine-

Because this topic is so big and it’s causing this blog to be too long, I will talk about this a little bit more next week in Part 6b. I will discuss who should get life insurance, how much should you get, what to do if you already have a Cash Value policy and want to change to Term, and what gimmicks NOT to get. I hope you all find this insurance series insightful and would really like to hear your questions as well your input.

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The insurance cost and cash value based on the average of four actual quotes.

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