Sep 26, 2024
Whole life insurance is often marketed as a potential investment opportunity. You may be told that you get a death benefit to protect your loved ones and an investment vehicle that you can live off of tax-free as a retiree.
Sadly, while these promises have some truth to them, the reality is that whole life insurance policies can be needlessly expensive, make accessing your funds cumbersome and offer a poor investment option compared to most others on the market.
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For example, if you've been sold a whole life insurance policy at 26 that requires you to pay $1,500 a month for the foreseeable future, you're likely in a tough position. You may even want to consider cutting your losses and finding a policy that’s more suitable for you. Here's why.
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Who benefits from a whole life insurance policy?
Whole life insurance policies aren’t necessarily the best option for the vast majority of people.
As financial radio host Dave Ramsey explains, these policies are "probably one of the worst financial products alive today." Ramsey is strongly against them because, as he said to a caller on The Ramsey Show, they can be 20 times more expensive than term life insurance policies while earning you an average investment return of about 1.2%.
Ramsey isn't the only critic, either. Ramit Sethi, host of Netflix’s “How to Get Rich,” has also called whole life policies "a scam," and a "waste of money" that "directs cash into the pockets of salespeople … and insurance companies."
Most people don't need life insurance coverage for their whole life, as family members stop depending on their income eventually. Unless you fall into one of a few valid exceptions, such as being the parent of a child living with a disability who needs lifelong support, you're likely better off buying a term life insurance policy offering coverage only for the period you need.
You can invest the money you save on a term versus whole life insurance premium and put it in an S&P 500 fund that has historically produced an average annual return of 10% — significantly higher than what a whole life policy tends to offer.
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Should you cash out?
So, what happens if you bought a whole life policy and then discovered it’s not benefiting you?
Unfortunately, these policies routinely include surrender fees and they're often larger if you cash out quickly. Insurers justify these fees because they claim it costs them money to set up and administer the policy. They're also partially designed to get you to keep the coverage.
While it may be painful to pay a surrender fee, it could be more painful to keep paying $1,500 a month on a subpar investment for decades. Unfortunately, you likely won’t break even on your cash value investment for the first few years of the policy. As a result, tens of thousands of dollars can go to waste in the process.
The money you've already put in, and the surrender fees, may have to be a sunk cost. But it’s best not to throw good money after bad if the policy doesn’t make sense for you. By finding an affordable term life insurance policy and putting the difference into the stock market, you can eventually make up for the lost funds over time by earning higher returns and end up better off in the end.
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Christy Bieber has 15 years of experience as a personal finance and legal writer. She has written for many publications including Forbes, Kilplinger, CNN, WSJ, Credit Karma, Insurify and more.
