Why Cancelling An Existing Whole Life Or Universal Life Policy May Be A Bad Idea

[mickeyd]

I have never been a big believer of hanging onto a whole life (cash value) policy, especially when the coverage is unneeded, but this article brings up a reason to think twice before you cash in that old policy. It may be generating a better return than you realize.

DW has an old policy, but we have never cashed it in because we have no immediate need for the CV, the dividends are paying the annual premium and buying bits of paid-up additions annually, and part of the surrender value will be taxable.

The bottom line, though, is that in today's low-return environment, not wanting or needing permanent life insurance anymore - whether due to a change in estate planning needs because of the increased-and-now-portable $5.25M estate tax exemption, or a general change in needs and circumstances, or a policy that is in danger of lapse due to underperformance - is not necessarily a reason to cancel it. Many existing policies have a significant prospective fixed income return - especially compared to today's fixed-income alternatives - which may provide a reason to keep a policy, or even pay additional premiums or an outstanding loan balance to maintain the future death benefit. The onus is especially significant on ILIT trustees, who must be certain to evaluate all options to fulfill their fiduciary duty on behalf of the trust beneficiaries. If the policy cannot be maintained affordably, or the cash value is needed, a life settlement may still provide an alternative mechanism to harvest the value of the policy's appealing without the ongoing obligation to maintain it. So be certain to do the proper analysis before just surrendering a policy, and do the analytics necessary based on the policy projections and the client's health to determine what the best course of action really should be!

Why Cancelling An Existing Whole Life Or Universal Life Policy May Be A Bad Idea - Kitces | Nerd's Eye View

 

[MBAustin]

Interesting - hadn't thought of it this way. Thanks for sharing.

 

[Brett_Cameron]

Does not sound right to me based on my own experience with a universal life policy. The balance is the result of money paid in premiums plus interest less cost of insurance and fees. The cost of insurance goes up exponentially as you age. This would rapidly deplete the cash value balance. Ymmv

 

[pb4uski]

My 35 yo whole life policy currently yields about 5% IIRC so no particular reason to surrender it.

 

[heeyy_joe]

My NML policies are growing at about 7% per annum. I consider them to be an excellent foundation investment. They will be one of the last things to liquidate, and it's more likely to be used for the death benefit face amount than anything else.

 

[ERhoosier]

Not sure I followed author's example calc's, but my whole life policy purchased too many yrs ago was a fixed $ premium. Sold to me arguing that future premiums could be paid from loan against CV of policy with interest being deductible against ordinary income taxes. When those IRS rules changed a few yrs later, the net cost of the policy increased a lot. IMHO policy was over-priced/expensive bad investment back then, but now internal returns generate more than premium so my CV grows a bit. Prob could not do better for after-tax return in (relatively) safe investment so I keep it. Now view this old policy as part of my FI ('bond') AA, and DW has a bit of LI.
Like any investment, you cannot go back in time but only evaluate it going forward.

 

[FinancialDave]

I agree only on half of the article's conclusion. UL policies are just too unpredictable and are a much higher cost policy than a simple WL one. I have had my NML policy for 35 years and it has returned a better than 6% annualized return on my money over that time frame. I have as of a couple years ago stopped paying on it all together and it now pays itself and also my LTC policy with plenty of cash left over to still fund growth in the policy, all with 100% tax-free money, even beyond my original investment, when it comes to that. It was not that big of a policy, about $28 a month for 34 years, but the death benefit is now about 5 times the original and the cash value about 3 times what I put into it.

So, yes, old policies can be useful, but I don't condone over doing it, as for most of your insurance needs during your career you should stick to term insurance and by the time you are retired you should not need it anymore.

fd

 

[heeyy_joe]

I agree only on half of the article's conclusion. UL policies are just too unpredictable and are a much higher cost policy than a simple WL one. I have had my NML policy for 35 years and it has returned a better than 6% annualized return on my money over that time frame. I have as of a couple years ago stopped paying on it all together and it now pays itself and also my LTC policy with plenty of cash left over to still fund growth in the policy, all with 100% tax-free money, even beyond my original investment, when it comes to that. It was not that big of a policy, about $28 a month for 34 years, but the death benefit is now about 5 times the original and the cash value about 3 times what I put into it.

So, yes, old policies can be useful, but I don't condone over doing it, as for most of your insurance needs during your career you should stick to term insurance and by the time you are retired you should not need it anymore.

fd

+1

 

[kcowan]

Once you understand actuarial statistics, you will learn that buying any policy is based on your personal situation. If you are healthy, buying insurance is a bet against you living. The only way you can win is by early death.

Having said that, I have a $500k policy to compensate for the lack of current survivor benefits from my DB Pension. First wife gets it. I will probably cancel it in the next 5 years if my health holds out. It is a financial decision. In spite of industry claims to the contrary...