Whole life is perhaps one of the crappiest financial products sold as investments that exist anywhere. This is even more true if you have student loans. I’ve seen a rash of clients lately who have six figures of student debt, and they have a whole life policy too. They’re paying several hundred dollars or more a month into their whole life insurance despite having interest accumulate at 7% or higher (without any tax deduction too). We’ll discuss why whole life is such a bad idea if you have student loans, why so many get sold whole life, and what you should do instead.
Whole Life is Not Only a Bad Investment, the Premiums Aren’t Tax Deductible
If you’ve got student loans on the federal repayment programs, you want to do everything possible to reduce your adjusted gross income.
For Public Service Loan Forgiveness (PSLF), every dollar you can avoid paying into your loans is literally money in your pocket when they’re forgiven tax free. Since Revised Pay As You Earn is 10% of your income, you want to reduce that income if at all possible. That means putting the max into retirement accounts.
So each $1 you put into your 401k saves you 10 cents in take home pay if you go for PSLF.
If you’re not going for PSLF, lower income still means more interest subsidies under the REPAYE plan. The lower payment means the government covers 50% of remaining interest. So that’s worth about 5 cents in take home pay.
Either way, there’s a hidden match to saving money in your retirement accounts if you have student loans. That alone trumps the exaggerated benefits of whole life.
Whole life insurance premiums are not tax deductible on the front end. The cash value grows tax deferred, but you don’t get the deduction up front. That means it does nothing to help with any debt repayment strategy.
Whole Life Insurance Rates of Return are Also Pretty Poor
Buying a whole life policy really stinks even if you don’t have student loans. After all, the rates of return are very low compared to investing in index funds long term. A projection from Insure.com, which is trying to sell you on the merits of whole life, says that you might earn 2% on your policy if you pay the premiums in the first 10 years.
A huge number of policies lapse in the first 5 years. What’s the annual rate of return on those policies? -10.7%.
What’s even crazier is that I imagine this is an optimistic assessment. Annual return numbers look better if you hold the policy for decades, but almost nobody does. When your best case scenario is a 4% annualized return if everything works out perfectly and you don’t touch the money for decades, that’s a pretty awful product.
So why would anybody invest in something that offers no upfront tax deduction, gives you inferior rates of return, and that so many people bail out of in the first few years of owning the policy?
Agents Make Huge Commissions Selling Whole Life Insurance
Why would anybody invest into a product that stinks from an investment perspective and doesn’t help you from a student loan perspective? The answer is that insurance companies pay monster commissions for selling these policies to people.
How much do you ask? Some companies pay as much as 100% of the first year premiums to the selling agent. Often, a company might pay 50% of the second year premiums to that agent too. That’s why if you look at the cash surrender value, most policies will show almost no balance because all the premiums basically go back into paying the agent’s sales fees for the first few years.
If you are an insurance agent, and you can sell a dentist on a $1000 a month policy and get paid 100% of that, you might’ve just earned $12,000 in year 1. That’s not even talking about the money you could get if the client keeps paying the premiums in future years.
What’s the answer to the universe and everything when commissions are that high? Whole life of course.
The Answer to Everything for an Insurance Agent is Going to Be Buy Insurance
Need to save for retirement? Buy whole life. Saving for kids college? Whole life. Want to build up funds to open a practice in the near future? Oh hey have you looked at how great whole life is?
The only time permanent life insurance might make sense is in the context of multimillionaires and estate planning. All the other uses is supposedly has are sales and marketing techniques that cost people way too much money.
Most Whole Life Agents Are Good People Trying to Make a Living Who Happen to Be Selling a Lousy Product
I’ll be frank and say that whole life insurance agents are not a super wealthy group on average. Some make a killing, but the typical one is struggling to make a decent middle class income. Most burn out of the profession within a couple years after exhausting their friends’ and family’s contacts.
He or she is certainly not getting rich peddling these policies because of the intense sales effort and frequent rejection they must endure.
There’s a lot of good people selling whole life, and I’m friends with many of them. That doesn’t mean the product they sell is good though. When someone’s livelihood depends upon them selling X% of product A, then product A is going to be the solution to everything.
Problems I’m Seeing with Clients with Student Loans and Whole Life Insurance
When I’m advising people on how to save a lot of money on their student debt, there are a few general pathways to go down. First, you can refinance student loans and get a lower interest rate. Second, you can go for PSLF while working at the government or a 501c3. Third, you owe so much that the forgiveness options are your only hope.
In all those situations, you either want to free up money to pay off the debt fast (refinancing) or to max retirement accounts to take advantage of interest subsidies (the other two). Whole life doesn’t fit into any money saving strategy around student loans at all.
Some of the most egregious cases I’ve seen is when clients have not one but TWO whole life policies. The agent clearly wanted another commission so he came back for seconds. Other clients fall for a smooth talking long term acquaintance / friend who sells them a big policy upfront. That’s especially true for dentists and doctors with their high incomes.
If You’ve Got Student Loans AND a Whole Life Policy, Maybe You Should Take a Look at Just Getting Term Life
There are other non insurance related abuses going on in the area of financial advice and student loans, but selling whole life to someone with a really high interest rate is just blatant self interest on the part of agents.
Why would you buy an “investment” that best case would yield around 4% max if you held it for 30 years when you have non-tax deductible debt at a 6% to 8% interest? The answer is because your life insurance agent either didn’t understand student loans or frankly just didn’t care.
Anybody with student loans probably needs a big term life policy. 20 to 30 year term is most likely the best option. It also costs 90% less than whole life on average.
I Can Probably Help Anyone with >$100,000 in Student Loans and a Whole Life Policy
If you got sold a whole life insurance policy, my suggestion is to cut your losses and cancel it. There are a few cases where that’s not the right course of action, but it’s rare.
If you’re dealing with six figures in student debt and have been throwing a few hundred a month into a whole life policy you don’t understand, please reach out.
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