I have this habit of texting my accountant friend Alex anytime — and I mean anytime — I stumble across a money thing I don’t quite understand. Being that he’s an accountant and a money nerd and my friend, Alex is prompt and knowledgeable in his response (which is my nice way of saying brevity isn’t one of his strong suits. Sorry Alex 😊).
However, this past weekend found Alex, his wife, and her family on an exotic vacation far from the modern wonder of wifi (lucky him) and conveniently cut off from my meandering money mind.
I, however, found myself in one of those panicked states you only seem to experience when you’re trying to fall asleep, realizing you know nothing about your life insurance policy (or even if you have a life insurance policy), and your one accountant friend is incommunicado.
Sans Alex, I was left to my own volition the following morning to figure out exactly what it is I didn’t know about life insurance.
I booted up my computer and performed the primordial act of Googling “life insurance what is it?” and commenced researching the topic on my own. (Because that’s how you spend your Saturday morning inside my brain.)
What did I learn?
Quite a lot actually. And in keeping with Alex’s tradition of providing waaaay more detail than necessary, I’ve done just that in case you’re here after a sleepless night of wondering, Should I get term or whole life insurance?
First, life insurance is not this
My first impression of life insurance is the image of someone sitting at the kitchen table with downward trending line charts scattered about and a sleazy salesman sitting across from them asking if he can take their blood pressure.
Way back when, after starting my big-boy job out of college, a guy in a suit practically did the same. His name was Matt, I think, and he insisted a whole life insurance plan was just what I needed.
At the time I didn’t have Alex around to pester, so I did what any young millennial does and asked his parents: What’s the deal with life insurance policies?
In a nutshell, they told me term life insurance is good, whole life insurance is bad.
I went back to Matt and said “No thank you” and bought a term life insurance policy someplace else and haven’t thought anything more about life insurance since my restless night last week.
However, I was completely wrong.
Life insurance isn’t good or bad, as any piece of financial advice goes, it depends on you and your current situation.
Everyone is going to die. That part is obvious. What isn’t obvious is when. Life insurance is a security blanket for those who depend on you in case the Fates snip your Thread of Life a tad too soon.
If on the off chance you aren’t Hercules, your beneficiaries may receive a “Death Benefit” (a morbid name if you ask me) or a lump sum of money equal to the policy’s worth to help cover costs of the funeral, pay off debts, or fund a college education.
In other words, life insurance is a financial tool and nothing more.
Next, let’s clear up life insurance terminology
It would probably be best in a Here’s-What-You-Need-to-Know-About-Life-Insurance article to spend some time clearing up all the life insurance jargon that, well, you should know.
For that, I turn to Eric Roukey, CEO and Chief Financial Strategist of PCG Financial Services, who was kind enough to send me a detailed breakdown of all things life insurance jargon-related.
But for the purpose of this article, let’s look at the big ones.
- Life Insurance — A contract between a policyholder and an insurance company where the policyholder pays a premium in exchange for a set sum (death benefit) to be paid out to beneficiaries if/when the policyholder dies.
- Beneficiary — A person (or persons) designated to receive the death benefit if/when the policyholder dies.
- Premium — The amount a policyholder pays to an insurance company to hold the policy.
- Face value — The amount of the life insurance policy that will be the death payment the beneficiary will receive if/when the policyholder dies.
Alright, glad we got the fun stuff out of the way. Let’s talk about what’s probably on your mind.
Do you need term or whole life insurance?
Let’s go back many years ago when I first encountered life insurance after starting my first real-world job. Now, I can’t entirely remember if it was my parents or possibly some co-worker who implanted the idea that whole life insurance is some kind of scam.
But now, many years later, it seems like naive ignorance may have gotten the better of me. It’s not that whole life insurance is a scam, it’s that in my situation it just wasn’t necessary.
Let’s break this down.
Term life insurance
Like most young professionals — either married with kids or with plans to repopulate in the near future — a life insurance policy is the peace of mind that if something should befall you, your loved ones will be taken care of financially. Funeral expenses, student loans, the kids’ educations, all taken care of (assuming an appropriate death benefit).
I operated under this assumption way back when. My goal was to make sure my family was covered in case anything would happen to me over the next 30 years, a generous approximation of how long my family would be in fragile financial footing.
After 30 years, my kids would be in positions to care for themselves and my wife and I (hopefully) will have built up enough of a nest egg that a death benefit is no longer needed.
For me, a term life insurance policy was all I needed. Now, what about whole life insurance?
Whole life insurance
Whole life insurance, as the name implies, is a form of permanent life insurance that covers you for life as long as you keep up with your premium payments.
When you pay your premium for term life insurance, some of it goes to funding your policy and some goes towards covering the administrative costs. In a whole life insurance plan, your premium covers both of these things as well as a cash value account.
A cash value account is a tax-deferred account that grows at a fixed rate over the life of the policy. This cash value account can be used as a savings account to supplement your income in retirement or be borrowed against without incurring taxes.
Many financial advisors agree that whole life insurance policies are not for everyone. NerdWallet says whole life policies are typically for the top 20% of income earners and are an expensive way to save for retirement.
However, if you do find yourself in a lucrative situation where you’ve maxed out other traditional retirement savings plans (401(k) plans, IRA, Roth IRA), a whole life insurance plan may be a nice option.
Let’s wrap this up
So, is term life insurance better than whole? For the majority of folks, yes. A term life insurance policy is enough to cover those fragile years when you have a lot of people depending on you, well, being alive.
If you’re a high-income earner, a whole life insurance plan may be a great way to diversify your nest egg and ensure your loved ones are taken care of after you pass.
All in all, I’ve moved past the black and white notion that term is good and whole bad. Like anything in life (insurance), there is a lot of grey. If you’re willing to equip yourself with the financial knowledge to navigate the grey, then you’ll set yourself up for success in the long run.
Oh and hey, Alex is back from vacation and is happy to answer your financial questions.
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