Comparing The Forex With Investing In Insurance
While there are innumerable kinds of life insurance available, they can be simplified into two general types: those that insure against death only and those that not only insure against death but make a provision for savings in addition to insuring. The first type is called term insurance.
It pays off only in the event of death. While it is worth nothing to the individual himself, since he never gets his hands on any of the money that went to pay the premiums, it does generally provide the maximum death benefits per dollar of premiums at the younger ages. Its sole purpose is to ensure against death.
As its name implies, it is written for a term—1, 5, 10, 20, 25 or 30 years—and if the term expires before the insured dies, that is that. There are no more premiums due and he gets nothing from the insurance company except the right to renew the policy for a longer-term and/or the right to convert the policy to permanent insurance without a medical examination.
Comparing The Forex With Investing In Insurance
Policies other than term insurance cost more than term insurance initially and the additional premium provides essentially one thing savings for the person insured. Now the main question to answer from an investor’s point of view is, “What do I get for this additional premium in the way of a return on my money?”
If a ten-year term policy is purchased the average net cost per $1,000 is $3.91 per year, and if a 20-year term policy is purchased the average net cost is $3.82. It gradually goes down according to the length of the policy, but if term insurance were bought each year, for just one year, the annual rate would be higher with each renewal since the older a person is the greater the likelihood of his death.
If he waits until he gets to age 55 the cost of term insurance rises tremendously. A five-year term policy at age 55 costs $21.85 per $1,000 and a ten-year policy $23.26. Term insurance usually may be maintained only until the insured is age 65. Thus, if a man kept term insurance to age 65, but died at age 66, his beneficiaries would get nothing and all of the premiums he had paid for this insurance would go down the drain.
These policies all provide nothing in the way of savings and there is no return on your money that you, the insured, will ever get. Your beneficiaries will get the face of the policy at your demise.
In contrast to term insurance, there is permanent insurance. This is insurance that may be kept as long as the insured wishes to keep it. If the insured lives, he has built up a substantial cash value in his policy which he may take in cash or as income or which he may leave with the insurance company as “paid-up” insurance.
The most popular form of permanent life insurance is convertible whole life insurance, sometimes called ordinary life or straight life.
Convertible life requires the lowest premium of all permanent insurance plans. Premiums may be paid on this policy as long as the insured lives or for a shorter period of time depending upon the objective of the insured.
Permanent insurance has a level annual premium for the duration of the premium paying period. The annual premiums in the early policy years are in excess of the actual premium needed to cover the risk. The excess premium is called the reserve and it is this reserve, together with interest earned on the reserve plus future earnings, which provide the cash needed to pay death claims in the later years.
If we consider that the 20-year term rate is the pure cost of insurance and that the difference between this rate and the straight life rate represents the savings element of his premiums, you determine this savings element by subtracting $3.82 from $17.70, which equals $13.88. Over 20 years this savings element amounts to $277.60. For this total of $277.60 put in in premiums, $403.94 was collected—a profit of $126.34 over 20 years, or $6.31 per year.
Retirement Income policy
The $277.60 was not put in all at once but over a period of 20 years. Nothing was invested at the beginning of the 20-year period, and in the twentieth year the whole sum was invested, so that the average investment for the period was halfway between nothing and $277.60—$138.80. The return on this figure is the true return, and $6.31 per year on $138.80 is a little under 5%.
Let us consider the Retirement Income policy at 65, bought by a person 25 years old. Over a period of 40 years, he puts in $30.92, the annual premium, times 40, or $1,236.80. If the average net cost of the pure insurance feature is assumed at $7.79 per annum and the cost is subtracted from the total annual premium of $30.92, we get the investment in the savings element of the insurance, $23.13 times 40, or $925.20. For these invested savings the insured gets back $2,326.81 at age 65-40 years later-a profit of $1,401.61.
If we use the same reasoning in regard to the average amount invested over the period (one half of $925.20), we arrive at an investment of $462.60. The profit or return per year is determined by dividing the total profit of $1,401.61 by 40 years and we get $35 per year. This $35 represents a return on the investment of $462.60, or 7½% per year.
How good an investment is this $462.60 that grows to $2,326.81 in 40 years? It is almost identical with an investment of $462.60 which returns 4% per year if the 4% is left in the investment to be compounded annually. The discrepancy between the 7½% per year and the 4% is explained by compounding.
The 4% compounded is not a bad yield. It is roughly equal to the return of an insured building and loan association in the year 1962, but not as good as the better yielding ones.
Now the characteristic of the Retirement Income policy is that premium payments end at age 65. The insured is now entitled to $2,326.81 if he left his dividends in.
Further, the insured can have his $1,597 (due him if he took his dividends out) paid to him and/or his heirs at the rate of about $10.00 per month for 157 months (a full refund). If he is still living at the end of the 157 months, the insured would continue to receive $10.00 per month for the balance of his lifetime.
If desired, an alternate amount or alternate type of annuity could be selected.
In addition to the guaranteed amounts, there would, of course, be dividend income payable each month in accordance with the company practice. The present income dividend is about 10% extra per month.
All of the above income would be tax-favored as compared to ordinary investment income.
The income or annuity return per $1,000 of accumulated cash in the insurance policy is guaranteed by contract as of the date of issue for future delivery. It is interesting to note that the cost of an annuity at 65 has been increased seven times in the last 20 years as the science of geriatrics has prolonged life.
There is one type of policy that represents the savings element alone and does not provide the insurance element. This is the annuity. You make a cash payment early in life, or periodic payments throughout your life, in order to get an income when you retire or pass a certain age.
At age 25, for an annual premium of $100 for 40 years, you can get (a) $8,201.47 in cash at age 65 or (b) monthly payments of $51.34 for the rest of your life.
You have invested in 40 years 40 times $100 or $4,000, and at age 65 this has grown to $8,201.47. It has better than doubled.
To find the average annual return, we determine the profit ($8,201.47 less $4,000) which equals $4,201.47 and divide this by 40 to get an annual profit of $105.
The average investment is halfway between zero and $4,000 and is equal to $2,000. The annual return is thus $105 divided by $2,000, or 5¼%. This represents considerably less than 4% compounded annually.
If the option of $51.34 per month is selected instead of the sum total of $8,201.47, it takes between 13 and 14 years to exhaust the total, and if you live longer than this number of years, you have come out ahead.
Most other policies provide savings, and the return on these savings is what we are concerned with here. While the yield on the savings is low it must be pointed out that by entering into an insurance contract the insured is forced to save what he might otherwise spend. A second advantage in buying policies other than term policies is that if the insured falls on hard times these policies are worth something in cash to help tide him over, and if he can’t keep up the premiums there is a cash reserve to pay premiums for a while. If term insurance premiums cannot be met the policy lapses.
One insurance company took what is considered to be a typical year as regards death claims and determined what the insured’s family got back in relation to what was paid. It determined that the average insured who was paid off that year collected $1.75 for every $1.00 put into premiums, and the average number of years each policy had been in force at the time of death was 22.6. The return was 4% per year, and the insurance company points out that the 4% return was tax-free in that no income tax was taken out either as the policy went along or when the final payment was made. This 4% equals 8% in income for a person in the 50% tax bracket.
The return on the savings element of life insurance can be determined by reference to the attached table. The major types of policy have been compared for ages 25, 40 and 55 as to annual premium, the value of the policy in cash at different ages and monthly payments which can be received from age 65 to the end of one’s life.
Two of the greatest benefits of life insurance depend on (1) inheritance taxes and (2) the uncertainty as to when the insured will die. These factors are not related directly to return on investment but cannot be minimized in any consideration of life insurance.
Long term it is very difficult to lose money if not impossible and the returns can be good.