Do the Math: How Rate of Return Reveals Life Insurance as a Superior Portfolio Asset

Once you learn the math behind the portfolio asset class called “life insurance,” you will see that it is the highest-returning safe asset a client can own, and you can show clients why they need to get the maximum amount they can afford.

Life insurance competes with the cash and bonds occupying the safe side of portfolio asset allocations. But isn’t asset allocation about spreading risk? Of course it is, so why is the only asset purchase that actually comes with a lifetime annual internal rate of return (IRR) illustration collecting dust in some basement cabinet? Before you answer, consider this: life insurance, at the average life expectancy of 84-87, generally delivers a tax-free IRR of 6 to 8 percent. In other words, you would need to receive an equivalent yield of 9.23 to 12.31 percent in a taxable investment just to compete with tax-free.

So why are consumers ignoring life insurance when policy returns can compete with or beat almost every conservative investment selection? Because they don’t know the math but would be receptive to having it explained to them in IRR terms. If they do not own any serious life insurance, you can give them a reason to buy a portfolio allocation right now. If they already own policies, it’s another opportunity to help them review what they own and buy a solid position for their portfolios. 

Compare Your Financial Alternatives 

Have you ever seen an IRR illustration for a stock or bond purchase? Absolutely not, and you never will. Only life insurance companies will give you an illustration prior to purchase and update it along the way, because their mathematical formulas are predictable. The only thing not predictable is death, and they will even ballpark those dates with simple life expectancy statistics available in their software.

Life insurance companies will also give you the right to buy the “guaranteed option” and give you a guaranteed annual IRR illustration for your entire lifetime. That’s great planning, since you now know the future return opportunities in advance by looking at the original and ongoing in-force ledger illustrations. 

Let’s add up the benefits so far:

  1. Life insurance companies issue both current assumption projections and guaranteed illustrations before you even buy the policy.
  2. You can see the future opportunity with annual IRR illustrations.
  3. The cash buildup inside your policy can accumulate tax free.
  4. You have access to your policy cash surrender value.
  5. Many consumers overfund policy premiums and create supple-mental retirement plans tapping the borrowing provision to access tax-free withdrawals during retirement years.
  6. The death benefit is paid tax free when set up properly.
  7. The policy can be purchased so the death benefit can also be estate tax free.
  8. When established properly, life insurance can be purchased inside your pension plan with tax-free dollars.

Let’s look at a few ages and illustrate what the current assumption IRR numbers look like for both males and females at the preferred health rating. (See the table above.)

What are people thinking? This is the most beneficial yet misunderstood asset ever offered. To make this asset even more compelling, the death benefit is tax-free. For a 50-year-old male, the IRR at an ordinary life expectancy is 6.14 percent. That would require a pre-tax return of 9.45 percent just to be equivalent in the 35 percent tax bracket.

How many people do you know who did 9.45 percent every year, year in and year out, for the past 10 years? No one! Let’s dramatize the point: if your home is worth one million dollars and it appreciated annually at 9.45 percent, it would be worth $15 million in 30 years when you are retired. Does that sound even remotely possible that your $1 million home will ever be worth $15 million at retirement? No, of course not, but in life insurance it is factual and realistic.

Stop Losing Money Buying Life Insurance

Life insurance is a portfolio asset—just like stocks, bonds and real estate. It can be bought at a net-zero cost (receive a positive IRR on premiums paid vs. death benefit), minimum-funded, over-funded, gifted, financed, 1035-exchanged, collateralized, generation-skipped and held until death, when the heirs can collect the insurance benefit without sky-high income and estate taxes.

In other words, you can make money with life insurance while you are alive, and your beneficiaries collect an even higher death benefit after your death. If you’re keeping score at home, that’s Win, Win, Win.

Win for everyone involved. Know any other investments like that? Now even though the following sentence is a little tacky, I still find it effective: If we are all going to die some day, why do it for FREE?

A way to turn the tables on conventional thinking is asking clients to think of buying life insurance as investing in themselves. By shifting clients’ thinking, buying life insurance is no longer an expense. It’s not another monthly bill; it’s a portfolio asset. Do clients complain about the “expense” of having money managed in mutual funds?

This powerful asset deserves—no, it demands—a place in the clients’ financial portfolio. Portfolios, regardless of the size, should be as diversified as possible. Most portfolios have real estate, stocks, bonds and cash—and now, with solid IRR mathematics, you can add the tax-free life insurance asset allocation, too.

David D’Arcangelo is president of The D’Arcangelo Companies. His latest book, “The Secret Asset,” was recently released.

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