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A Tale of Two Life Insurance Policies
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THE SCENARIO
Note: There are a lot of factors involved in life insurance policies (e.g. riders, cash value, and many more), but I'm going to be simplifying here to make the situation easier to understand and analyze.
I was looking recently at two life insurance policies, and trying to determine which one, if either, to buy.
One is a Permanent policy, meaning that its terms are set today and never expire, and as long as the premium is paid, the policy will pay out on the death of the insured, no matter how far in the future that might be. This policy costs $400 per month, and pays a $500,000 death benefit.
The second is a Term policy, and it expires after 10 years. If the insured doesn't die within that span, the death benefit never gets paid. This policy costs $50 per month, expires after 10 years, and pays a $500,000 death benefit if the insured dies within those 10 years.
The question: If I buy the Term policy instead of the Permanent policy but invest the monthly savings every month, what return would I need to get over the 10 years of the policy to have $500,000 at the end? There will be no death benefit after that, but if I can replace it through my investments, I can protect my family as if I still
had a death benefit.
THE SOLUTION
Before starting, it's going to be necessary to know how much I can invest each month. Since the Permanent policy costs $400 per month and the Term policy costs $50 per month, I can invest $400 - $50 = $350 each month.
First things first, make sure the calculator is using 12 Payments per Year.
N: 120 (I'm investing for the whole 10 years, which is 10 x 12 = 120 months)
I/YR: (This is what I'm trying to find)
PV: 0 (I start with nothing in my investment account)
PMT: -350 (I'm investing the difference between the Permanent policy and the Term policy)
FV: 500,000 (My goal is to have $500,000 at the end of the 10 years)
To accomplish my goal, my investments would have to return 39.30% each year.
Earning 39.3% each year, consistently, sounds like a tall order. So if my only two options are these two, and I absolutely
have to have half a million dollars after 10 years, then I don't feel confident that I can do so. However, those are big assumptions, and it's possible that at least one of them isn't the case.
What do you think? Would you buy the Permanent policy over the Term policy? Or do you not think you're going to need that much money by the end of the decade? What other strategies might you employ to secure your family's financial future? Let us know in the comments!
