With how quick-paced life is these days, it only takes a few blinks of an eye – and you’re racing over the midlife trampoline, with a dependant or two in the backseat, and many more responsibilities than you envisioned in your 20s. Even if you’re still only in your early 30s, it’s very likely that you’ve already amassed a collection of untradeable assets like a spouse, a couple of children, a mortgage. The list goes on and on.
Having a family, especially, can not only provide you with a purpose, but also a sense of existential dread. The latter feeling will make you do anything in your power to protect your family. This is where life insurance comes into play. It is a capable option that enables you to feel safer about the future of your loved ones. Life insurance helps you take care of your beneficiaries in case of the most unfortunate event.
How does one make life insurance an investment
In the broader sense of the term – life insurance gives you the feeling of safety and helps ease your mind about your family’s future. Therefore, it’s already an investment, no matter how you look at it. It also should not be understated how much peace of mind helps the modern human survive in this fast-paced, stressful environment. So, any investment that has this side effect on your psyche, should be considered worthwhile.
In the more conventional sense of the term – life insurance can come in all shapes and sizes, letting the consumer choose which type of policy provides the exact benefits they might be after. Including an investment component. Many insurers can provide you with tailored options, designed specifically to your needs. There are typically two categories that insurance plans can be sorted under: permanent (whole) life insurance and term life insurance.
Whole life insurance
The basic idea of this insurance policy is found in its name. The policy is valid for the duration of your life, as long as you pay premiums as per your insurance contract. As with all life insurance policies, the death benefit should be considered the main return of your investment. This means that you, essentially, pay premiums for the sake of a psychological investment for yourself and financial investment for your dependents. Additionally, life insurance death benefit payouts are exempted from income tax.
Apart from the death benefit, whole life insurance policies may come with the additional investment component, that allows you to accrue a significant amount of cash value over time. This cash value in turn is made up partly from your premiums, as well as any interest rate earnings on these deposited payments over the years. In the case of your death (or disability, depending on policy terms), the policy would pay out both the death benefit and the accrued cash value to your beneficiaries or you.
Where it lacks as an investment, however, is the fact that whole life insurance policies tend to have a rather low premium-to-return ratio. This is because many if not most insurance companies tend to invest their capital in low yield, fixed income corporate and government bonds, instead of diversifying their portfolios.
Term life insurance
Unlike whole life insurance, term life insurance typically spans over a fixed term, like 20-30 years. Depending upon your needs, you can choose the term that fits best. This, in combination with your age and overall health at the time of purchasing this policy, can lead to significantly lower premiums than with whole life insurance.
While you end up paying much smaller premiums than with whole life insurance, at the end of this fixed term the total amount of your premiums just goes away, exactly the same way your life insurance coverage does.
However, if you want your policy to have a savings portion, it’s possible to have one with a term insurance as well. This is called a return of premium life insurance. Same as with whole life or other term life policies, you’ll pay a fixed rate premium for the duration of your policy, but you’ll be able to get all of your money back at the end of the term. Apart from the purchase and administrative fees, of course.
Tax exempts, returns and other benefits
First of all, the death benefit of all life insurance policies is usually tax-exempted. If such an occasion occurs, that your beneficiaries have to collect this payment, at least they’ll be released from tax obligations.
As with all other categories of investments, if you make any profits – they may fall under the scrutiny of the revenue service. However, if you purchase your insurance policy out-of-pocket (meaning – you pay for it yourself) you might receive some form of tax relief.
For example, you don’t have to pay tax on any interest you earn on top of your premiums for whole life insurance. You only pay once you withdraw the funds, and even then – only on the amount that exceeds the total premium amount.
With a return of premium insurance policy, your yearly premiums are tax-deductible up to a certain amount. Which means that you can get tax returns for a fixed amount of your yearly paid premiums. This is usually in correlation with the amount of your annual income. Meaning, you get tax returns if your premium payments don’t exceed a certain percentage of your annual income.
Is it worth investing in life insurance?
If your main concern is the welfare of your family/beneficiaries, it’s well within reason to invest into a life insurance policy. You will simultaneously reduce some of the stress in your life, as well as taking care of them in case of a serious misfortune.
Additionally, by taking out a life insurance policy, you might be generating some yearly tax-free income in the form of tax returns. Depending on your tax residence, there may be amount limits for these tax exemptions, but they are available nevertheless.
However, if your concerns lie about making profit on your investments, perhaps life insurance is not the right option to invest in. In Europe, the yearly profit yield upon your premiums typically lies in the 0% – 1% range, which makes this investment much less profitable than most other categories. One might argue that the amount you would pay in life insurance premiums each year would serve you much better if being invested in other, more profitable options.
If the primary benefit of life insurance doesn’t fit your needs. Especially if you’re on the lower end of the age spectrum – there may be other investment options for you to consider.
This is an informative blog entry and should not be taken as financial advice.