NOTE: This post is part of an ongoing education series. This information is for educational purposes only. This information does not constitute investment advice. No rational person would make investment decisions based on a blog post. Please consult with your financial advisor before taking any action. If you think it is OK to make investment decisions based on a blog post, then for the love of the FSM – Stop reading this blog.
Insurance is a sensitive topic and there can be a lot of emotion wrapped in the decision about how much to buy and what kind you should get. I will not talk about why you may need insurance or how much to get in this post. You can see my previous post of term vs. whole life here.
Today we will assume that you have already decided to buy insurance in the amount of $500,000 and you want 30 year level pay. Level pay means that you will pay the same amount for 30 years. Because it is term you insurance, it will end after 30 years.
Lets assume that you are 35 years old, do not smoke or engage in risky activities and you are in really good health. You go to an agent and they tell you that the cost for your life insurance is $538 per year. The total cost over 30 years is $16,140. Not bad for $500,ooo of life insurance. It all seems so simple and then the insurance agent tells you about another product. It is called Return Of Premium Term or ROP Term. It costs a little more but after 30 years you get all of the money back! The cost for our test subject the cost is $1,100 per year for a total of $33,000 over 30 years. Sure it’s a little more but you get all of the money back.
So… is this a good product for you?
I will start with a few of my basic investing rules. You should not break these rules.
1 If it sounds too good to be true – It probably is.
2 KISS = Keep It Simple Silly. Think of this as the Financial Occam’s Razor. The product with fewer variables is likely the better product.
3 Only buy what you understand. If it is confusing, you should say NO. If you understand it later – you can buy it then.
4 Buy term and invest the rest.
Does the ROP Term product sound too good to be true? It sounds like it has more variables and you may not understand it; but it’s term, right? RIGHT? Well, no… the company collects $538 per year to pay for the insurance and the extra amount is invested. The amount invested is $562 ($1,100 – $538). You may have just violated all 4 rules listed above.
Here is some math….
If you follow rule 4 above you would just get the term and invest the rest. You could take the $562 you save each year and put it in a long term bond index fund. My favorite long term bond index has a current yield of 5% (it was even higher in the past). If you make 5% every year on this money you will have $39,205.56 after 30 years . You just made $6,205.56! Plus you can take out the money any time you need it.
If you are a more aggressive you could add the $562 into your overall long term investment strategy. If you make an annual return of 10% will have $101,690.20 after 30 years. So…. which one do you want now?