Clients being ever vigilant for the fine print or hidden costs occasionally ask how I get paid. The core of the question for them is, of course, any additional cost they might incur above and beyond the premium.
How do life insurance agents get paid? This isn’t a question of whole life insurance vs. term life insurance. Almost all life insurance agents are paid on a commission basis by the company. For term insurance it is generally a percentage of the first year premium with no renewal commissions paid. With whole life or universal life it is generally a percentage of the first year premium and a modest renewal commission for anywhere from 5-10 years.
I’ve made no bones about the fact that I’m not a fan of whole life insurance. I believe that if you get down to the core of why agents choose to concentrate on whole life insurance vs. term life insurance or even universal life with a no lapse guarantee, it’s commission. I’ve been torn asunder for this assertion on a number of occasions by whole life agents who will claim to their death that they really believe whole life is the answer for all life insurance needs.
I maintain there is a point when a person “outlives” the need for most of the life insurance they might carry during their child raising, higher income days. So, let me just throw out some facts and you can give it some thought. Maybe I’m all wet. Maybe not.
Let’s use a 48 year old guy who needs $1 million of coverage. He’s a doctor and is confident he will be comfortably retired by age 70. Just to give him a little wiggle room we got him $1 million of 30 year term that will cost $3320 a year at the preferred rate he qualifies for due to his being a private pilot. At the end of 30 years he will have paid $99,600 for the protection he wanted. If he reached a point before then that he had outgrown the need for it, he could have dropped it and paid less.
He can get $1mm of whole life for $21,000 a year. Over the next 30 years his premiums will total $630,000, but that will be offset (according to the whole life agents) by the fact that the policy will have accrued cash value of $591,572. So, without digging any further it’s plain that a person could take the cash value and end up paying about $38,500 for the insurance over that 30 year period. Good deal?
So, where’s my leg to stand on? Well, let’s start with the most obvious, $300 a month versus $1750 gets my attention. But what if money just really isn’t an issue. I know “buy term and invest the difference” is a worn out, beat up old piece of common sense, but really, it still is common sense. If you can afford $21,000 a year without stressing your budget, buy the term and free up $17,680 a year to invest outside the policy.
Whole life guys will tell you no one has the discipline to actually budget that $17,680 and invest it, so the whole life is a kind of forced investment/savings/retirement plan. Well, that may be true for some, but I would venture a guess that if someone can’t do that, they will also eventually lapse the whole life policy. If they lapse their insurance their family has no coverage. If they don’t invest the $17,680 one year, they still have all of their life insurance.
So, what if a disciplined investor socks away $17,680 a year for 30 years? At a fairly modest 6% return, that generates $1,481,000. There are plenty of mutual funds out there that have averaged 12% or more for a very long time now. What if they put that extra money into those kind of funds? At 12% “the difference” generates nearly $5 million. Even with the taxes that will be due it beats whole life.
And about that cash value. Generally it isn’t left alone. The truth is that the agents will tell you that you can borrow it (use it as your personal bank) or pay premiums from it. Well, unless you pay back the loan the death benefit has been reduced.
Now all the claims I’ve made came from a real whole life policy from a highly rated company. I took all of my numbers off of the guaranteed side of the illustration. Any agent that would use the non guaranteed figures to sway you to buy should have to take in your family and care for them when you die without any insurance.
Bottom line. If you lack discipline and have enough money to buy whole life insurance, buy term life insurance and put the difference on an automatic eft into an investment plan.
I almost forgot why I got off on this subject. So let’s circle back: how do life insurance agents get paid? It’s the commission. On the term insurance an agent would typically get about 90% of the first year premium or about $3000. The whole life agent would typically get about 70%, so they make $14,700 the first year. Normally they would get around 3% annually on renewals, $630 a year, for at least 5 years, another $3150 in commission, $17850 total. So, all I’ve been saying is that the amount of commission could certainly be a factor in swaying someone to push a client in a direction that just might not be best for the client.
Your numbers are quite skewed to win your arguement, nice attempt.
I have heard about bank on yourself B.O.Y( http://www.bankonyourself.com/ ) and would like to know what you think of these. Some quotes that I found interesting and would like to know what you think:
“B.O.Y. requires a very specific type of
policy structured a very specific way. Out of
over 1,500 life insurance companies, only a
handful offer the right kind of policy. It’s so
little-known that it’s not covered in
insurance-industry training programs,
which is part of the reason you haven’t
heard of it. With this kind of policy, you
don’t have to die to win.”
“Adding the paid-up additions rider, or
PUAR, is like putting your policy on legal
steroids—it grows your cash value in the
most efficient way possible.”
“Certain life insurance companies known as
non–direct recognition companies credit
you the exact same dividend regardless of
whether you’ve taken a policy loan—so your
money can work much harder for you.”
Sounds like a crock to me. Show me the illustration from a reputable company. Heck, show me the illustration from any company. No one seems to be able or willing to do that.
James is correct I sell and own this policy and it is like having cash on steroids… if you would like an illustration I could provide one for you … send me an email. I just did an illustration on a 45 year old and putting in about 21k a year for 20 years and at 65 he would have 650k in cash to retire on as well as all the benefits to the cash he had during his life time. there are many benefits like liquidity use and control of his cash, the benefit of never losing principle, using his cash as a bank, etc.
As a non financially educated guy, I have a really hard time understanding how people in the same industry can have such varying opinions how to insure oneself.
I have 4 LI policies, 2 “BOY” policies and 2 term policies. On me, I have 750K term for 13 more years (532 annual premium) and then a BOY policy that has appx 500K in death benefit, 21K in cash, and a 900/mo pricetag.
My wife has 500K in Term at about 290/yr premium, and a BOY plan, only 250/mo, 3 K cash value and about 150K death benefit.
“Investing” in these is great, however, when your industry/job takes a downturn due to the economy and bonuses/commissions are wiped away, the 1150/mo to the Whole Life policies, I am starting to question. Food/Mortgage vs. Whole life policy.
We have 4 kids, a house payment, and a small 0% loan that has about 1K balance on it.
I don’t trust the stock market or the butt heads on wall street further than I could throw either.
What is a hard working, upper middle class guy to do?
You asked “how people in the same industry can have such varying opinions how to insure yourself”. Fair question. Sounds like a good title for a blog post.
My honest, heartfelt belief is that it comes down to the financial payoff for the agent. If the payoff for whole life is a lot larger than structuring a well thought out term plan, well, there are plenty of agents who have learned to believe that it’s a better product inspite of the evidence to the contrary..
My personal belief is that there are very few permanent insurance needs for us hard working middle class guys. You’ve often heard buy term and invest the difference, but realistically you don’t have a lot of trust in investments. So, buy term and stick the difference under your mattress.
If you die the whole life policy isn’t going to pay your bride $500,000 plus the cash value in the policy. That cash value goes back to the company so you honestly didn’t earn a thing on your $900 a month.
I would love a chance to show you the difference and how you can cover all of your needs, even permanently if that’s important to you, and put a bunch of that money back in your pocket, or under your mattress.
Love the convo but on the first years premium for the life insurance policy(original question), do you get paid that first years commission up front or is it spread over a few months or can you have the option?
can you please tell me how much they make on a paid-up whole life? we were considering one , but noticed the cash value the first year would be about 30% less than the amount we paid in I believe, not sure, it was State Farm if you know about their commission would like to know thanksl.
James,
Commission is not the culprit with paid up whole life. You are not only creating the seed money for later cash value growth but also paying up the mortality expense for the life of the policy. That said agents I think make in the 4% to may 6% range.
Informative post – not something you see being explained very often.
I have a question: What happens to the commission if the agent that sold you the policy leaves the company? I bought whole life from a family member less than a year ago to help him out with the new insurance job. Does he still get that commission, or does it then go to the new agent handling my policy? Now that he is leaving the insurance industry, if I cancel that policy, will my family member experience any backlash? I’d like to quietly cancel it.
Irene,
Call the relative and tell him you have decided that the policy doesn’t suit your needs and that you really just bought it to help him out and that you want to cancel it. Don’t keep paying for the mistake you made. Be honest. If he’s getting out of the business there shouldn’t be any repercussions to him.
Can you please explain to me what a 7702 is? Thanks
Jo,
IRC 7702 explains the tax free buildup of cash value in life insurance. It is not a plan like an IRA, where you set up accounts to manage the tax free accumulation. Mostly you will hear the term used by agents that want you to think your life insurance policy is really more than that. It’s a 7702 retirement plan!!! No it’s not. It is a cash value life insurance policy. You will not find anywhere in the IRS rules or anywhere else the existence of a 7702 plan. Please let me know if you have more questions, but if an agent is trying to sell you a 7702 plan, they’re blowing smoke.