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Is insurance your best investment?

By Jay MacDonald ·
Friday, October 1, 2010
Posted: 7 am ET

Most of us think of insurance as an expense instead of an investment. That's understandable considering that it ranks right up there with mortgage payments and taxes as a major financial outlay each year. Even when we reap a "return" via a claim on our auto insurance, homeowners insurance or health insurance, we rarely see the cash. It also offers only one form of compensation -- monetary -- for a host of calamities for which we could also use solace and compassion. For these reasons, insurance just doesn't feel like an investment.

But in these days of measly return rates, might we benefit by viewing it as one?

I put the question to Ray Lucia, a San Diego-based Certified Financial Planner, radio host and author of "The Buckets of Money Retirement Solution."

Can life insurance beat today's stock market?

"The typical life insurance policy, over a short time period, cannot," says Lucia. "But an individual who is willing to invest for 20 years might be able to get a halfway decent return that is a little bit better than the fixed-income vehicle that you can buy with a shorter horizon. So no, I don’t think that a life insurance vehicle works.

"However, there are some insurance products -- for example, fixed-indexed annuities -- that carry with them a floor return of, say, 1.5 percent over a five-year period, so you can't do any worse than 4 percent. And then they'll tie the returns to some index, such as the Standard and Poor's 500 or whatever, and there's an outside shot at doing better than CDs by doing something like that."

Sure, you can beat 4 percent with something like a non-traded real estate investment trust, or REIT, but Lucia says you'll likely have to hold that for 10 years to do so.

I'll insert my own plug here for term life insurance, which today sells for about a third of what it cost in the 1990s. If you need term, this is a great time to invest in it. You might also check out the new term-universal life policies called "Term UL" that give you more options for about the same investment dollar.

Though he doesn't think the recession is anywhere near over, Lucia cautions against keeping all of our cash under the mattress.

"For some people, that’s the right thing to do, but for most people, it is not. Remember, we do get through recessions," he says. "In fact, if you look at the performance of the stock market 10 years out from each of the past five recessions, you ended up with a 13 percent compounded return for the ensuing 10 years. I don't think we're going to get anywhere near that in the stock market (this time), but history tells us that investing when there is blood on the street, making the tough move to put money into stocks and real estate when they are viewed as least likely by the media and the public to do well, actually ends up being the best time to be an investor."

To which I would add: May the Force be with you.

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Jay MacDonald
October 06, 2010 at 10:03 am

Thanks for your comments, Jack. A lot of good information in here. I share your frustration with the symantics of "investing" in insurance, though I would still prefer that mindset to the uninvolved, what's-the-bill approach. Agreed, a term policy beats other options for most consumers today. My problem with term is, when money gets tight, most people drop it. No flexibility. I'll be taking a look in an upcoming story at the new "Term UL" hybrid product that attempts to put some elasticity into term coverage while maintaining its affordable price. Will it enable more people to hold onto their term coverage? Only time will tell.

October 05, 2010 at 1:58 pm

It is actually dangerous to look at life insurance with an investor eye. It needs to be looked at with a financial planning eye. Perhaps I am splitting hairs here, but when using the word investment with life insurance you have to be careful. Buying life insurance has more to do with current/future income needs, insurable interest, current/future cash flow, current/future tax rates, asset protection, etc. than with investments. Traditionally, life insurance will lose if you compare it to other investments.
For most people, IT IS a matter of lowest premium. The sob stories you speak of are the middle income sole wage earner who has passed and they have no insurance and 5 kids. These people never seem to value even paying a modest amount for insurance or they decided that when budgets get tight, insurance premiums are the first thing to drop. NOT a good idea! The sob stories are not people who have money to throw at rich death benefit policies and just decide not to from an investment perspective. If a “wealthy” person decides not to buy a permanent policy, either the agent did a very poor job selling it and/or the person was comparing it to traditional investments. Which goes back to what I said above. But, in these cases I am not sure where “sob” comes into play…these people are fine. Remember, wealthy people are self-insured, so they have to buy these policies for other reasons. (Usually tax advantaged income or rich living benefits.)
I wish the non- self-insured would just buy modest term life to protect their family. All I see are middle class families buying “Cadillac” policies and dropping them prematurely when they don't perform the way the illustration was run...or when they can no longer afford them. :( I also recommend if other family members are wealthy, buy inexpensive policies for the less fortunate in the family.
Minimizing the premium is the only way to try to assure that the policy will cover during the high wage/high mortgage period for the family. Just like car insurance is most important in certain periods of a driver’s life. (Teenager, commuter) Term is term. It is a commodity so the rates are typically the same across carriers. Very little shopping needs to be done. I encourage a family to buy a policy that they can afford both now and in 15/20 years. Don’t spend money on premiums that may be a hardship later just to get an “investment”. Ultimately, you could end up with no coverage.
The annuities and permanent policies are for a different segment of the population... to meet specific needs. These are not to be compared to term since premium cost is not the issue.
I hate the “buy term, invest the rest” argument but for a majority of the population it is applicable. Outside of a few good variable annuity offerings, which you don’t buy for the death benefit anyway, most people will do fine with term insurance to cover their income and their family until the kids are gone and/or mortgage is paid and/or they have enough other assets that the remaining spouse can live modestly.
You lumped several insurance products together as “investments” which I think can be confusing to people so I wanted to post a little more specific information on the subject. I also cringe at buying annuities, index participation or not, at these record low rates.

Jay MacDonald
October 02, 2010 at 1:04 pm

Thanks for your insights, Jack. I indeed will retract the verb "invest" here, though I meant it in a less literal sense. Overall, I think it's prudent to view all insurance from an investing perspective rather than from the Tony Soprano perspective, which amounts to "Waddaya gonna do?" True, most insurance types won't build cash value, with the obvious exceptions. But it's still wiser to view them with an investor's keen eye rather than simply minimizing the premium. The sob stories that result from that approach are legion.

October 01, 2010 at 6:44 pm

I would retract the sentance, "If you need term, this is a great time to invest in it." Insurance is NOT an investment unless you are building cash value and intending to raid it in retirement. Term has no cash value and is claimed on less than 1% of the time so even your spouse won't win on this "investment".

Buy term like you would car insurance. Know that you will not likely claim on it but it could be catastrophic for your family if you didn't have it. Buy permanent policies to build cash value. Be careful though that the policies costs and fees don't eat up the return/interest on the policy. Also, be careful to anticipate future cash flows so you can afford the premium build up so the policy doesn't explode. Every few years do an in force illustration to make sure the policy is performing the way you had intended.

Stay away from fixed annuities right now. Rates are ridiculously low. In terms of index annuities, be careful, they are only good with a floor and high participation.

ALL of these products need to be viewed carefully given the SPECIFIC needs of the person.