Is Whole Life Insurance a Good Investment?

Amanda HesterSeptember 1, 2021

Life insurance is generally thought of as protection for dependents in the event of the untimely death of the policyholder. In effect, it creates an instant estate for the family to live off in the absence of the policyholder’s regular income. The past decade has seen shifts in thinking toward life insurance as the insurance industry strives to reinvent itself to grow and increase its profitability while remaining relevant to its customers. The result has been the use of certain life insurance policies, particularly whole life policies, as investment strategies in addition to sources of death benefits.

Whole Life Insurance Defined

Term and permanent are the two categories of life insurance policies. Term policies are only in effect for up to thirty years and must be renewed if the policyholders outlive them. They provide only death benefits. Permanent policies include all policies that don’t expire, meaning that the policyholders cannot outlive them as long as the premiums have been paid. Universal and indexed universal insurance and whole life insurance are included in this definition.

Whole life insurance policies, while providing a death benefit, add a savings component called a cash value. The cash value is the part of the policy that earns interest. This money can be withdrawn or borrowed against and even used to pay for the premiums if the amount grows large enough. In addition, the interest that accumulates is tax-deferred and the loan doesn’t have to be repaid as long as the total outstanding loan amount does not exceed the cash value of the policy.

When applied to whole life insurance, the word straight denotes a policy in which the death benefit remains in place for life as long as the premiums are paid. The payments never go up regardless of the age or the health condition of the policyholder.

Benefits of Whole Life Insurance

These kinds of policies offer some very attractive advantages, including:

1. Guaranteed tax-deferred growth – the cash value will continue to accrue for as long as the policy is active.
2. No premium increases – the amount will stay the same regardless of the terms of the policy.
3. Tax-free loans – money borrowed against the cash value is not a taxable income as long as it doesn’t exceed the amount paid toward the premiums.
4. Tax-free dividends – dividends are also tax-free as long as they are derived from the premiums.
5. Permanent coverage – the policy is guaranteed for the life of the policyholder.
6. No additional health assessments – the policy remains the same even if the policyholder’s health condition changes or worsens.
7. Surrender options – the policyholder can surrender the policy at any time to redeem the cash value back from the insurance company.

Disadvantages of Whole Life as a Retirement Savings Strategy

As good as the benefits look on paper, whole life insurance has some serious drawbacks including:

1. Higher premiums – the premiums for whole life policies can cost five to ten times as much as those for term life insurance because they are prorated to cover the entire lifespan of the policyholder and offer the added benefit of the earned cash value.
2. Slow accrual of cash value – it can take as many as 10 to 15 years to grow enough value to borrow against. Additionally, the premiums may be so high that it is difficult to pay in more to add to the cash value.
3. They are complicated to understand – buyers should not consider whole life policies without the guidance of an experienced insurance agent or financial planner.

If the policy is being used purely as an investment strategy, there is no guarantee that the cash value will accrue at a predetermined rate without careful planning and guidance.

There are also other types of policies, such as variable universal life insurance, that offer cash value options. As with any policy, proper planning involves researching variable universal life insurance pros and cons.

Overfunded Whole Life Insurance

When a policyholder is able to pay more than the minimum premium amount into the policy, the result is an overfunded policy. This can occur as happenstance or if the intent is to overfund the policy so that tax-free loans can be made against it. As tempting as it may be to use the overfunded amounts for tax-free loans while knowing that they don’t have to be repaid, this plan should only be carried out carefully and under the guidance of a skilled financial advisor. A whole life insurance policy owner does not wish to get to the point when the death benefit is needed but the policy has been prematurely depleted.

Investing in a 401K vs Whole Life Insurance

Investing in whole life insurance gives the policyholder flexibility and complete control to access the cash value at any point without penalty and to overfund the policy at will. A 401k offers the complete opposite. Money can’t be taken out without fees and taxes, the amount that can be put into the 401k is limited, and the investment opportunities are also limited by the controller of the 401k account.

That doesn’t mean that investors should have to choose one or the other. Both plans can be part of a wealth-building strategy as long as each one is funded so that risks are minimized and the greatest advantages are gained.

When Would Whole Life Insurance be a Good Investment?

Even though whole life insurance provides many benefits, it can be out of reach for many people because of the high premiums and the length of time it takes for the cash value to accrue to a serviceable level. On the other hand, it can be the perfect option for someone who needs long-term protection, estate liquidity, and a guaranteed savings account. It is often recommended for business owners and those who have more cash to invest. Under those conditions, whole life insurance is a good investment.