Despite enjoying the longest-running bull market in history, most preretirees have a substantial retirement savings shortfall.
The average 65-year-old in the U.S. will outlive their savings by almost a decade, according to a new report by the World Economic Forum. And the typical household nearing retirement has only saved enough in their combined 401(k)s and IRAs to provide them at most $600 a month, according to the most recent Federal Reserve Survey of Consumer Finances.
Studies show most people have few assets outside of their market-based retirement accounts and any home equity they may have. And 74% of workers would experience financial difficulty if their paychecks were delayed for just one week. This leaves them extremely vulnerable in the next market crash.
According to investment strategist Sam Stovall, historically, the longest bull markets “went out with a bang and not a whimper.”
During the last financial crisis when the S&P 500 SPX, +0.39% fell by 57%, we often heard the refrain, “There’s no place to hide.”
Except it wasn’t true. There’s an asset that has passed the test of time, increasing in value every single year for well over a century — including during the Great Recession and the Great Depression.
That asset is whole life insurance. But before you close your mind because you’ve heard that whole life insurance is a lousy investment, I want to tell you about a little-known variation of whole life that may well be the most overlooked retirement saving strategy: high cash value, dividend-paying whole life insurance.
This type of policy funnels much of your premium into options or riders that make your equity — your cash value — grow significantly faster, while slashing the commission paid to the insurance agent by 50-70%.
You receive a guaranteed cash value increase every year, plus you have the potential to receive dividends. A policy that pays dividends is called a “participating” policy because the policy owner shares in the profits of the company in the form of dividends credited to the policy. Some companies have paid dividends every single year for well over a century.
7 reasons to consider high cash value, dividend-paying whole life as part of your retirement savings plan
Here are some of the benefits of a properly structured high cash value dividend-paying whole life insurance policy:
1. Guaranteed, predictable annual growth. Regardless of what’s happening in the stock or real-estate markets. Historically, the growth has been significantly greater than savings or money market accounts and CDs. Your policy is also guaranteed to grow by a larger dollar amount each year, and both your principal and growth are locked in and do not go backward in a market crash.
2. Liquidity. You can borrow up to 90% of your cash value whenever and for whatever you want, without begging for it or filling out nosy credit applications. The only questions you’ll be asked are how much money do you want and where do you want it sent?
You can pay back your policy loan on your own schedule and skip payments when needed without worrying about dings on your credit report, collection calls, or repossession.
Many well-known people have used whole life insurance policy loans to start or grow their businesses when no banks would lend them a dime, including Walt Disney, Ray Kroc, J.C. Penney, Foster Farms, and the Pampered Chef.
3. Uninterrupted compounding even when you’re using the money in the policy. When you take a policy loan, your cash value can continue to grow as if you hadn’t touched a penny of it.
Here’s how it works: Some companies offer “non-direct recognition” policies, which simply means the company doesn’t “recognize” you’ve taken a policy loan when crediting dividends at the end of the year, so you’d get the same dividend regardless of any loans.
4. Control. Unlike a 401(k), 403(b) or IRA, you are not subject to the penalties or restrictions imposed by the government and your employer for taking withdrawals “too soon” or “too late.” There are no Required Minimum Distributions.
Congress and your employer can change the rules for your government-sponsored retirement plan any time they choose. However, a life insurance policy is a “unilateral” contract, which means the company can’t change the rules unless you agree to it.
5. Multi-layer safety net. Life insurance companies are audited regularly by the state insurance commissioner’s offices to ensure they maintain sufficient reserves to pay future claims and are on solid financial ground. Most are also audited regularly by several independent rating companies.
6. Tax advantages. Similar to a Roth IRA, your policy grows tax deferred and you can take withdrawals tax-free, under current tax law. While many people like the immediate gratification of tax deferral on contributions made to a 401(k) or IRA, according to the Society of Actuaries, if tax rates remain the same, “It doesn’t make any difference whether taxes are taken away from you at the beginning (before you make a contribution) or at the end (tax deferred). It’s the same fraction of your money that is left to you.”
So let me ask you a key question: What direction do you think tax rates are going over the next 20, 30 or 40 years?
Given that Congress continues spending and considering the aging demographics of our country, many people believe tax rates can only go up over the long term. Paying your taxes now — while you know what they are — avoids unpleasant surprises.
In addition, the death benefit of the policy — which is typically many times greater than your cash value — passes to your loved ones income tax-free and without going through probate.
7. Peace of mind. You can stop worrying about when the next market crash will wipe out 50% of your retirement savings again and know the minimum guaranteed value of your policy on the day you plan to tap into it — and at any point along the way.
Having a portion of your retirement savings safe and liquid in a dividend-paying whole life policy gives you more options, not fewer.
Disclosure: Yellen is an educator, and not a licensed insurance agent or financial adviser and does not receive commissions. She does receive a referral fee for referring someone to an adviser who has advanced training in structuring high cash value dividend-paying policies.
Pamela Yellen is a financial security expert, consumer advocate and president of Bank On Yourself. She is the author of two New York Times best-selling books, including “The Bank On Yourself Revolution: Fire Your Banker, Bypass Wall Street, and Take Control of Your Own Financial Future”. Pamela’s latest book is “Rescue Your Retirement: Five Wealth-Killing Traps of 401(k)s, IRAs and Roth Plans — and How to Avoid Them”.