The Myths of Buying Term and Investing the Difference

life insuranceMy Comments: Life insurance is a financial tool used to solve certain financial problems and offset the risk presented when someone dies and economic pain is the result. That’s a cold way to talk about the death of a loved one, but from an objective point of view, that’s how it must be seen.

Because we hold life so dear, emotion tends to cloud the process that leads to and influences decisions about life insurance. Emotion is the primary reason most of us don’t invest our money very well; hope is not a valid investment strategy. Nor is it a reason to buy or not buy life insurance.

I’m going to assume most of you know the difference between a term policy and a permanent policy. The first is for a specific number of years and the second is designed to last until you die. The best time to buy a life insurance policy is about three months before you die. My next question of you is “when would you like me to come by and take your application?”

I own life insurance today. Or at least members of my family own a life insurance policy on my life. And just as all of us are biologically unique, my reasons for having and paying for a non-term policy are unique to me.

Along the way I’ve owned a number of different term policies, policies that actuarially were unlikely to be there if and when I died. Virtually everyone who owns a term life policy survives the terms of the initial contract. Which is why they are relatively cheap. Insurance companies love it when you send them money for years and never file a claim.

The thoughts behind this post come from a well known insurance company with whom I’ve had a professional relationship for many years. If anyone is interested, you can send me an email and I’ll forward to you the 10 page .pdf file they sent me with the above title.

However, the myths are not expressed numerically. Which is unfortunate.

There are those whose opinions I respect who say you should only purchase term insurance, no matter how old you are. The idea is to pay a smaller price, and then make sure you invest the difference. By the time you actually die, you will have amassed more than enough cash to offset the fact that you no longer have any life insurance.

Mathematically, this is probably true. Only I’m familiar with a phrase that says “life is what happens when you are making other plans.” To me this means that for most of us, as life throws us curve balls, our ability and discipline tends to wane over time. The net result is that when it comes time for us to die, our pile of cash is limited, there is no longer any life insurance in force, and there is economic pain for our family members.

Some of the dilemma results from our way of life which tends to demand answers NOW! Not six months from now, not 30 years from now, but NOW! And I have to remind myself that I have no idea what I’m having for lunch today, much less when the grim reaper will show up and take me from the building.

For most of us, paying attention almost daily to what anything costs leaves us habitually inclined to favor solutions that cost less. And term insurance definitely costs less. If you read paragraph 4 above once more, you’ll understand why. So that’s what we buy. Mind you, if you do unexpectedly pass away and beat the odds, tax free money will flow to whomever you have named as beneficiaries. That we know it might happen is why we are interested in considering our options in the first place.

Over time, our reasons for thinking we want life insurance also changes. When we are young and perhaps have children at home, one of our greatest assets is our ability to earn money. If that goes away, where will the money come from? So we buy life insurance.

As we age and our children are grown and hopefully self-sufficient adults, that need for life insurance goes away. But in the past decade, virtually all of us have been sent a curve ball in the form of what is thought of as the “great recession”. Few of us have as much money today as we would have had if the economic crisis of 2008-2009 had not happened. There is no guarantee a similar event won’t happen again in the next couple of decades.

There are things I can talk about to mitigate those kinds of events, but this is not the place for it. What is appropriate is to identify the various economic risks most of us face as we age and move into the third stage of our life. This is when we stop working for money and money has to start working for us. Economic risks are still there, and it’s in our best interest to understand what they are and decide how relevant they are.

We have to consider the economic burden imposed on our families if we, or our spouse if we have one, has health issues that result in what is known as Long Term Care. The odds are very high that you will be subject to that unpleasant reality. If your pile of cash is not significant, will there be enough money left on the table to keep you from being warehoused until you die? If all of it is spent on you, and you have a surviving spouse, is there enough to take care of that expense? Life insurance is one way to make it possible.

But when you are in your 40’s or 50’s, who among us is thinking that far ahead? Virtually none of us. So we simply buy term and protect ourselves in the near term, hoping our pile of cash will grow large enough. I’m now talking with several ‘seniors’ who are asking me for life insurance quotes to see how much it’s going to cost to manage this problem, in case they don’t die early.

There are also new products on the market that are life insurance products that have riders that enable the insured to access the death benefit before they die to help pay for any long term care that becomes necessary. If you don’t need the care, then the family gets all the money. But if you do need long term care, the riders leverage the amount available so that if push comes to shove, there’s more money available than just the death benefit. These can be lifesavers, to mix a metaphor.

Perhaps this has been helpful. Let me know. Thanks.