Ask a Financial Advisor: Caitlyn Driehorst

Why the Hate on Whole Life Insurance?

“When my wife was 25, a high school friend helped her with a rollover – he’d become a financial advisor at a big life insurance company (not there anymore). Since then, she’s been making payments into this policy. I’ve been reading more stuff online and it seems like a lot of personal finance nerds don’t like whole life insurance. Why the hate? And if it’s so bad, why would someone who knew her personally, and said he’s a fiduciary, sell it to her?”

Signed - Wife Guy, Not Whole Life Guy

Dear Wife Guy:

Yes, happy to dig into the product characteristics of whole life insurance! But first, your wife shouldn’t feel alone in her situation. I talk with a lot of high-earning people in their thirties and forties, and “I was sold a whole life policy in my twenties” is up there with “I don’t want to talk about this student loan” for immobilization and shame.

Here is my cranky, vehement answer to that shame: it’s not a sin to be young, to want to do the right thing, and to listen to people you trust. That impulse for agency and responsibility – even in her youth – reflects so well on your wife’s character. She had good intentions and not enough information; it’s possible that whoever sold her this policy also had good intentions and not enough information.

Caveats aside: what is whole life insurance, why does it provoke groans in some quarters, and what are the “this-not-that” alternatives that can address similar objectives with lower fees and greater flexibility?

Whole Life Insurance: What Is It?

Whole life insurance combines two products: life insurance and a cash savings account. If you die before the cash account hits a certain amount, you’ll get the life insurance amount; if you die after the cash savings account hits a certain amount, you’ll get the cash value. However, when you look at these two products separately, their “buy this not that” alternatives have some pretty great advantages for fees and flexibility.

First, a whole life policy includes a life insurance benefit. This is a permanent benefit: so long as you are current with premiums, you’ll receive that benefit whether you die at 24 or 85 (either paid by the life insurance or by the cash value of the policy.)

The headline here sounds great: you’ll definitely get that money at some point! However, scratching the surface reveals some flaws:

Think about how much money you’d need if you kicked it at various ages: If you die single, childless and renting at 25, your loss would be especially tragic but the financial implications would be pretty minimal. (Your main priority for end-of-life planning may be making sure your roommate knows which drawers to clean out before your parents arrive on scene.) And if you die at 85, your loss is less tragic (“she had a great run!”) but the financial costs are also probably also pretty minimal – or at least likely to be covered by the equity in your home and remaining retirement account investments. However, if you die at 45 with two small children, a heft of outstanding mortgage and a heartbroken spouse, the financial implications can be devastating: your children need food and tuition, the mortgage should be paid off to keep them in the same home, your spouse needs time off work, and everyone needs therapy. That can come to a six-figure or seven-figure expense. The whole life insurance benefit is constant and permanent – but your insurance needs change dramatically over time.
Think about the economics of insuring something that’s definitely going to happen: Death is inevitable (see, my degree in Russian Literature did come in handy.) Insurance is all about expected value: the lower probability that something will happen, the cheaper the insurance. The higher probability that something will happen, the more expensive the insurance. According to Nerdwallet, a 30-year-old non-smoking woman can expect to pay $186 per year on average for a $500,000 20-year term life policy. The same 30-year-old non-smoking woman would expect to pay $4,407 per year for $500,000 of whole life coverage. Big difference!

Second, a whole life policy includes a cash savings account. Much of what you pay each month is set aside in this savings account. “Forced savings” can be very powerful as a behavioral tool, and because the insurance company invests this cash for you, the value does go up over time.

But again, if you scratch the surface, some flaws appear. These cash accounts are invested conservatively: if you’re young and a high-earner, you may have the time and risk tolerance to invest in stocks, which can provide greater returns over decades on average than fixed income investments. Your money is also locked up: if you’ve saved into a high-yield cash account or into a general brokerage account, you can pull your money out to top off a child’s tuition payment or put a second kitchen into your second home. If you want to access your own money in a whole life policy, you’ll need to pay interest to get your cash out.

Interest to access your cash is hardly the only fees you’ll pay to invest in these products: according to Nerdwallet, “typically, life insurance agents receive as commission 60% to 80% of the premiums you pay in the first year. They collect smaller commissions in subsequent years. Added up, 5% to 10% of all the premiums you pay over the life of the policy could go to commissions.” When you could save into a high-yield savings account with no fees, or invest in low-cost ETFs for equity market exposure, those fees seem pretty high.

Is life insurance bad? Are cash accounts or investing accounts bad? Absolutely not. But if you want life insurance or if you want a savings account, you have options with lower fees and more flexibility by buying these separately. You can buy a term life insurance policy for significantly less and invest the money you would have otherwise paid in premiums into investment accounts with greater control over the risk-return profile of your money and for much less in fees.

But then, you may not be getting “hey buddy, haven’t caught up since Ms Smith’s AP Lit class, how’s it shaking?” Facebook messages from commissioned salespeople for low-cost opportunities like that.

Who Sells Whole Life Insurance, and Why?

Personally, I’ve never spoken to someone who did their own research, decided they needed a whole life policy, and then shopped around to find a policy with favorable figures. The people I have met bought their policies because a salesperson reached out and suggested that they buy one. The cliche is that “life insurance is sold, not bought,” and that personal touch upfront can bring feelings of betrayal and disillusionment if you later think the policy wasn’t a good fit for you:

“They know me personally and still sold me this.” Maybe they sang with your wife in choir or were a few years ahead of you in the same fraternity, but you had a personal reason to think this person had your best interests at heart.
“They said they were a financial advisor and called themselves a fiduciary.” Being a fiduciary doesn’t mean that an advisor has no conflicts; it just means those conflicts are disclosed. This is just realistic: even wracking my imagination, I’d think any advisor would have some conflicts. (We do! Ask me about them.) But allowable conflicts can be pretty extreme, and so long as they’re disclosed, that’s within the “fiduciary” guideline. Read more in this great article from Financial Planning magazine, “A conflicted question: What is fiduciary advice” (link)

Life as a commissionable insurance salesperson is difficult: according to Investopedia, more than 90% of new life insurance agents quit within the first 12 months. Researching some of the career practices for life insurance sales people may help you feel more empathy for the individual who sold you this policy. (Odds are, that person is no longer in the industry.)

And looking forward, some suggestions for finding a financial advisor who isn’t a product salesperson:

Look for education outside of company training programs: Does this person hold a certification like the CFP? Have they studied financial planning in a school setting? Look for an objective education, not the company line.
Understand how they get paid: Do they only make a commission if they sell you a specific product? Or do you pay them for their advice?

What should you do if you have one of these policies?

If you think your interests may no longer be served by an existing whole life insurance policy, consider reaching out to one of our financial advisors for an opinion. We can review your current financial situation and any statements or projections you’ve received from the insurance company and give you an opinion on your specific options. We won’t judge you (though ngl, we may judge the sales incentives that could have worked against your interests.)

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Author: Caitlyn Driehorst

Date Published: 10/28/2024