We often see life insurance advertised as part of life for adults with a family who are dependent upon their income. Purchasing life insurance is supposed to be the responsible thing to do. But is life insurance actually a good investment?
Whether a life insurance policy is the right choice for your circumstances depends on a lot of factors. In this article, we will examine the pros and cons of having various kinds of life insurance.
What is Life Insurance?
Insurance in its most basic form is an agreement between an insurer and an insured that transfers the risk of loss from the insured to the insurer. For life insurance, the loss is usually the untimely death of the insured. Life insurance protects the beneficiary of the policy from financial fallout after and because of the insured’s death.
There are many types of life insurance that can make this definition more complicated. There are also different uses for a life insurance policy besides just paying out a sum of money when you die.
Why Purchase Life Insurance?
One of the most common reasons people purchase life insurance is to help provide for their family if the primary breadwinner dies unexpectedly. Another popular reason is to make sure funeral and other end-of-life expenses are covered. In these situations, life insurance not only provides financial support but also peace of mind.
Many peoples’ situations don’t fit exactly into these boxes, though. You may not have dependents, may already have a financial safety net, or may not wish to have an expensive funeral and burial. You may also be young and not see the point in thinking about life insurance yet.
In insurance terms, the beneficiary, usually family or dependents but also business partners, often have an insurable interest in the insured person. It is because of that insurable interest that many people purchase a life policy. However, life insurance is unique in that there doesn’t necessarily have to be an insurable interest to buy a policy.
Therefore, while you may not need life insurance for the traditional reasons, you may still be interested in purchasing a policy. Here is where we come to the central question of this article:
Is Life Insurance a Good Investment?
There are two ways we can interpret this question. First, is life insurance worth it? And second, is life insurance a good investment vehicle?
Is Life Insurance Worth It?
Getting life insurance can be a quick and easy process, depending on your situation. If you are under 40, never smoked, and are generally healthy, you have a good chance of getting an affordable policy with practically no hurdles. If you have the means to do so, securing a policy now will probably be worth it, especially if you plan on having children in the future or starting your own business.
People that fit in the lowest-risk demographics usually get the most favorable rates on insurance. With life insurance, your rates are going to be locked in for the life of most policies. So, starting a policy when you’re young is a good investment if only to keep the cost low in the future.
The best category of policy for young people is generally going to be a permanent life policy. With permanent, or whole, life insurance, your policy doesn’t expire and you can often borrow from your policy tax-free.
A life policy can also a good investment for parents of minor children or people caring for dependents. This way, your dependents will have that financial safety net in the event of your passing.
Pros of a Permanent Life Policy
- Permanent life insurance does not expire.
- Many policy types allow you to borrow up to the amount you’ve paid in premiums, tax-free.
- Getting a permanent life policy while young can secure lower premiums than you might get later in life.
- Some policies offer tax-deferred investment opportunities.
- You may be able to receive all or a percentage of your policy’s death benefit under certain circumstances like the onset of major medical conditions if the policy offers accelerated benefits.
Cons of a Permanent Life Policy
- Permanent life insurance policies charge higher premiums compared to term life policies.
- There could be taxes due if you cancel your policy without paying back any money you may have borrowed from it. This may also be the case for your beneficiary if you pass away with an outstanding loan from your policy.
For people with dependents, term life insurance is a great option to look into. With term life insurance, you’re buying coverage for a set amount of time at a lower monthly cost than most permanent life policies. This is ideal if you know you will only be caring for your dependents temporarily, such as until they’re adults.
Pros of a Term Life Policy
- When the term policy expires, you often have the option of renewing it or converting it to a permanent life policy.
- Premiums for a term life policy are usually significantly lower than that of a permanent life policy.
- You can decide the length of time your policy will cover and can estimate the total cost of premiums over that time.
- You can secure more money for your beneficiary in the event of your death than you would with saving the same amount you would pay in premiums.
Cons of a Term Life Policy
- There will be no benefit unless you die within the policy term. You can’t get your premium payments back at the end of the term unless it’s part of the agreement for renewal or conversion to a whole life policy. In which case, premiums paid would go into the new policy.
- Term life policies don’t have cash value and can’t be borrowed from.
- If you choose to renew your policy, you will most likely be subject to new rates after renewal. If you purchased a 20-year policy at age 30 and decide to renew, your premiums will be reassessed as a 50-year-old and will probably be higher.
There is another option for those who only need a term policy. But also want to get their premiums back at the end if they don’t use it. This type of policy is called return of premium life insurance, and, as the name suggests, all your premiums are returned when it expires. Return of premium is sort of a middle ground between a whole life and term life policy. But with higher rates than a traditional term policy.
A return of premium life policy is something to look into for young adults who have minor children. Also if financial obligations such as cosigned loans. Not only will you have life insurance, but you’ll also get your payments back if it turns out you didn’t need it. The drawback in the latter case is that you won’t be earning interest as you would with a savings account. And you can’t borrow from the policy.
So,is Life Insurance a Good Investment Vehicle?
The short answer is probably no, for most people. But, it depends on what your goals are.
If you are interested in using a life insurance policy as something similar to a 401(k), where you can borrow from it and collect interest over time, you’re probably better off just going the traditional investment route.
While you can use some permanent life insurance policies this way, it might not the most effective investment strategy. You will most likely pay more for a whole life policy overall than you would a traditional investment account.
There are certain circumstances where permanent life insurance makes sense as part of an investment strategy, however, these are rare. Term life insurance has no investment component and is only useful as pure insurance.
Purchasing life insurance has many positive aspects. Most people will benefit from the peace of mind associated with having life insurance. This comes from knowing their beneficiary will have a financial safety net if the insured passes away unexpectedly.
Term life insurance is a good option for those who only need coverage for a certain time period. Parents of minor children or people with dependents such as those caring for people with disabilities can benefit most from term life insurance. However, there is no return on that investment if the insured outlives their policy. That is unless they have a return of premium policy.
Permanent life insurance is a good investment, especially for young people who may have access to lower rates. People with long-term dependents can invest in a permanent life policy. This ensures their dependents can obtain further care after the insured’s death. A permanent life policy is not a good investment vehicle for the majority of people. A 401(k) or IRA would probably be preferable.
Whether you purchase life insurance now is ultimately up to you. The necessity of it depends on your individual situation. If you are thinking about purchasing life insurance, want more information or want to apply for a life policy, contact NextGen Life Insurance. Get your free quote today or call us at 646-216-4199 to get started.