When deciding which type of life insurance is right for you, consult with financial experts. Dave Ramsey, well-known for his radio show, best-selling books on financial management, and his “Financial Peace” money management classes, has a lot to say on the subject of life insurance.
Term life insurance
Dave Ramsey says that term life insurance, when purchased in the right amounts, can be a valuable way to replace income if you need to protect your kids and/or partner from the financial devastation that often follows an unexpected death.
But, by the time the kids have grown up and become self-sufficient, he says you shouldn’t need that safety net. By then, if you follow his debt-free living plan, you’ll have enough money in safe and low-fee investments like mutual funds that you can let your term life insurance policy expire.
He calls this being “self-insured” and it's a worth-while financial goal. See, term life insurance is an inexpensive way for young families and people who don’t have a lot of savings built up to support their loved ones. If you die without life insurance, they may have to move because of housing costs and make payments on the funeral and burial costs for years.
Term life insurance, according to Dave Ramsey, does what insurance is supposed to do. It transfers the financial risk associated with death to a large company in exchange for a fee.
Worried that term life insurance may be too expensive? Consider this:
- Typically, a term life insurance policy costs 95% less than a whole life insurance premium
- Term life insurance rates are at a 20-year low because people are living longer
- People who are young and healthy can get a sizable term life insurance policy for just a few dollars each month
Whole life insurance
Whole life insurance has a few distinct differences that insurance agents frequently discuss with potential clients. First, it never expires. No matter when you die or whether you end up with a serious health condition later in life, you are covered by this type of permanent life insurance. Assuming the policy premiums are paid on time, your beneficiaries get the face value of your life insurance policy when you die.
This type of policy can’t be reduced, canceled, or revoked unless you don’t pay the premiums. The value of the policy doesn’t decrease over time, and your premiums are set when the policy issues, so you don’t have to worry about the price going up. Eventually, you’ll be able to borrow against the cash value that’s built up inside the insurance policy.
The premiums are expensive, though.
For example, on average, a $250,000 whole life insurance policy for a 30-year-old would cost around $286. In comparison, a 30-year term $250,000 term life insurance policy for a 30-year-old would cost, on average, $21.
Dave Ramsey points out that you could just save the premium difference between the whole life policy and the term life policy, and invest the difference however you like.
The premiums for whole life insurance are so expensive that about 1/3 of people who buy a policy let it lapse within five years. That’s way before the surrender value would equal the premiums paid in. In fact, many policies take 15 years to break even. If you have the policy for less than 20 years, it’s just not a good investment.
You may get 2% to 5% returns on a whole life insurance policy, but you’ll need to literally pay the premiums on the policy for your whole life. You never know where you might use or need that money.
Someone must be benefitting from their whole life insurance policy, though. Otherwise, why would anyone buy this type of insurance?
The people who get the most out of their whole life insurance policy do it by keeping the policy for 30+ years. That’s more of a financial commitment than most people are willing to make. Only 20% of people who buy whole life insurance keep the policy for more than 30 years. So, 80% of whole life insurance policy owners are just loaning money to insurance companies in exchange for interest rates lower than they would see if they simply put the money in their 401(k).
Dave Ramsey recommends term life insurance
It’s been said that Dave Ramsey really hates whole life insurance. For his audience of regular folks just trying to learn about money and get out of debt, this insurance product certainly doesn’t make sense.
It violates the “don’t invest in anything you don’t understand” rule for a lot of people. Whole life insurance is so complicated that you need a translator (life insurance agent) who works on commission to explain it.
If you follow the “Financial Peace” map, you’ll end up with a term life insurance policy that provides for your family if you die while it’s in force. By the time the term is up, and the policy expires, you’ll be debt-free and have enough savings that you’ll be “self-insured.”
If whole life insurance really fits into your personal financial picture and it’s a great advantage to you as part of your overall strategy to grow your wealth, then you don’t have much in common with the majority of people looking for money advice from Dave Ramsey.
So, what’s Dave Ramsey’s advice about buying life insurance?
If you have anyone in your life who depends on your income, you need a simple term life insurance policy. This policy will replace your income if you die.
Dave Ramsey says that you should buy 10-12 times your annual income. This amount will allow your loved ones to replace your income with the interest if the life insurance money is invested well. A 20-year term meets the needs of most families.
There’s no need to guess how much a 20-year life insurance policy costs.