After reading through the previous 3 articles (linked here, here, and here) of this series, you still may be thinking you don't see the benefits of dividend paying whole life insurance. My goal in this article is to go over the advantages and flexibility of dividend-paying whole life insurance. The final article will be on the drawbacks, final thoughts, and other resources to continue to expand your knowledge, if you do so desire.
So why would someone give over their hard earned money to an insurance company when the mantra of "Buy Term and Invest the Rest" (BTIR) is so prevalent in the financial community? First, most people don't invest that difference. Second, if people actually do invest the difference, they do it for growth, and not for income, like us DGIs plan for. Third, if you are bad at saving, this becomes a forced savings plan. You will not let the premium lapse because it is a "premium" that you are paying to someone else. However, you could always forget to pay your rainy day account because you were a little short this month and promise yourself you will repay it next month. Finally, some of these insurance companies have been around for more than 200 years and have been paying uninterrupted (but variable) dividends for their entire existence.
Though this should not be compared to investments, people do and insurance agents love to bring it up, especially when it was 2008/2009, when their clients saw the cash value of their policy going up and everyone else's net worth going down. The cash value can only increase and may only go down when a loan is taken out. Once the dividend is paid for that year, it is yours. As this website, The Visible Policy, shows us, it is only fair to compare BTIR to Bond Funds. The insurance companies primarily use a bond portfolio, so that should be our comparison. When comparing the two, the whole life policy stays fairly close in value to the BTIR line (it was last updated in 2010). The book, How Privatized Banking Really Works (Page 315), references a report which says the average insurance policy returned 4.2% a year for a 30 year holding period. That 4.2% realized no taxes as long as the dividend (which technically is a return of excess premium given back to the policy holder) compounds within the policy. And remember, though the cash value may be slightly less than the BTIR line, you have the added kicker of the death benefit.
To see if this 4.2% was true, I looked at my policy. As I mentioned in article 1, there is a guaranteed interest rate and a variable dividend kicker. The variability is due to how much profits the insurance company made that year. If it is a mutual insurance company (which your policy should be with), the policyholders are the "owners" of the corporation's profit and receive their proportion of the proceeds. The formula to figure out the guarantee is complex and hidden from view (a BIG negative), but from extrapolation, the first year's guaranteed interest rate was to be about 3.75-3.8%. It will go down over time (averaging .04% over 30 years) because the cash value has to match up to the actual death benefit at the age of 121. But the simple answer is that the guaranteed increase is 3% each year over 30 years, starting higher in the beginning and lower as you get older. As far as our personal policy's increase in cash value, it increased in cash value an estimated 5.6% for the last 12 months, almost 2% better than the guarantee, but a little bit less than the assumptions initially made when we purchased the policy. For money I consider as a savings account with the death benefit kicker, I'll take 3-5.5% annual return for 30 years any day of the week.
Also, I keep on calling this a banking policy. What a bank is allowed to do is take a dollar you deposit into your branch, and by banking law, they are allowed to use that $1 to act like $10. This is called leverage. Your house mortgage works the same way. You put $30,000 down for a house that is worth $150,000. You only put $1 down, but the value of the asset is worth five times more. Well, if done with the proper life insurance company, this policy can do the same thing. We can't forget that this is insurance and you are primarily purchasing this for the death benefit, but you can take a loan against your Cash Value and use it for anything you wish. Hence, your $1 is working like $3.
1) It's your forced savings account so it continues to grow the cash value.
2) As the cash value increases, the death benefit increases much higher than the initial face value you purchased.
3) With the proper policy, the interest and dividend you receive continues to grow without interruption even if you took a loan against your cash value in your own policy. This idea is called non-direct recognition. So your $50,000 of cash value you have built up still receives its full interest and dividend on the full $50,000, even though you took a loan for $20,000 to purchase anything you wish (just imagine trying to negotiate this with your current bank where you have your savings or checking account). But when you say anything, what do you mean by anything? You can use it to go on vacation, you can buy a second home, you can buy a new car, you can remodel your kitchen, you can take the money out to live off of during retirement, etc.
The insurance policy doesn't ask you what you are using the money for. All they look at is if you have enough cash value in the policy (collateral) to loan against yourself. They charge you simple interest on the loan you took out, but your dividends on your cash value increases by compound interest. As you are still in the accumulation phase, it is vital to be disciplined to pay your loan back, just like you took a loan from the bank, or this will fail miserably, so it's not a free ride.
Insurance agents will highlight all of these positives, but gloss over the negatives. I think it is extremely important to understand the other side of the coin. We will go over that and my final thoughts in the last and final article.