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The rate of return on a whole life insurance policy will vary from company to company. The rate of return is also heavily influenced by the policy type selected and the design used by the insurance agent/broker who sells it. Despite the variables that affect the rate of return, there is of course an average we can identify among all the options out there. But who wants to be average?
Instead, I'll take this opportunity to give you the expectations you should have if you are seeking to buy whole life insurance with a retirement/savings objective.
All Whole Life IS NOT Created Equally
You cannot assume that just because an insurance product carries the name whole life insurance it is in fact that very thing we often talk about here at The Insurance Pro Blog. Whole life is a broad category of life insurance products, each with its own unique strengths and weaknesses positioned to help people accomplish specific financial planning goals. The versatility of the product gives it incredible capability of meeting such goals, but it also means we have to carefully match the right product to the right circumstances.
There is a minute fraction within the population of whole life insurance products that are truly suited to act as alternatives to your other wealth accumulation tools. They do, however, exist and they do, I assure you, work very well for this task.
So please understand that when I talk about expectations vis-à-vis rate-of-return I'm doing so with specific product types and designs in mind. And, very importantly, I don't want anyone to read this and assume that just any old whole life policy should have these expectations.
Whole Life Insurance Example
Here's an example of a whole life policy for a 45-old-male who wants to put $35,000 per year into his policy:
| Year | Age | Premium | Cash Value | Cash Value Rate of Return | Death Benefit | Death Benefit Rate of Return |
| 1 | 46 | 35,000 | 27,104 | -22.56% | 1,053,632 | 2910.38% |
| 2 | 47 | 35,000 | 57,180 | -12.75% | 1,151,234 | 425.69% |
| 3 | 48 | 35,000 | 92,712 | -6.10% | 1,248,397 | 189.90% |
| 4 | 49 | 35,000 | 131,688 | -2.43% | 1,344,179 | 115.55% |
| 5 | 50 | 35,000 | 173,628 | -0.26% | 1,438,919 | 80.93% |
| 6 | 51 | 35,000 | 217,386 | 0.99% | 1,533,150 | 61.37% |
| 7 | 52 | 35,000 | 263,727 | 1.84% | 1,627,014 | 48.97% |
| 8 | 53 | 35,000 | 312,747 | 2.45% | 1,720,552 | 40.48% |
| 9 | 54 | 35,000 | 364,656 | 2.91% | 1,814,053 | 34.34% |
| 10 | 55 | 35,000 | 419,628 | 3.27% | 1,907,741 | 29.71% |
| 11 | 56 | 35,000 | 477,751 | 3.56% | 2,001,790 | 26.12% |
| 12 | 57 | 35,000 | 539,225 | 3.79% | 2,096,150 | 23.26% |
| 13 | 58 | 35,000 | 604,232 | 3.98% | 2,190,761 | 20.94% |
| 14 | 59 | 35,000 | 672,976 | 4.14% | 2,285,665 | 19.01% |
| 15 | 60 | 35,000 | 745,609 | 4.27% | 2,380,912 | 17.39% |
| 16 | 61 | 35,000 | 821,839 | 4.38% | 2,476,564 | 16.01% |
| 17 | 62 | 35,000 | 902,208 | 4.47% | 2,572,788 | 14.83% |
| 18 | 63 | 35,000 | 986,983 | 4.55% | 2,669,899 | 13.80% |
| 19 | 64 | 35,000 | 1,076,494 | 4.62% | 2,768,260 | 12.91% |
| 20 | 65 | 35,000 | 1,170,965 | 4.68% | 2,868,081 | 12.12% |
There are several things to discuss about the above numbers, so let's break it down piece-by-piece.
I'm going to assume that year, age, and premium are self-explanatory enough so that no one really needs me to explain what those three columns are telling us.
The Cash Value column tells us the anticipated cash value at the end of the policy year. I say anticipated because these figures are dependent on the non-guaranteed features of the whole life policy (i.e. the payment of dividends to the policy owner). The policy owner can use this cash value in any way he sees fit. He can cancel the policy and take this cash value. He can withdraw some of this cash value from the policy. He can take a loan against the policy and use the money for whatever purpose he wants. He also has the ability to do this at any age without restriction.
Cash Value Rate of Return shows us the effective rate of return achieved in that year. For example, in year 10 when the rate of return shows 3.27%, this means the policy owner achieved a 3.27% return per year on his $35,000 premium if he has $419,628 in cash value. Thought of another way, 3.27% compounding per year is the return you need to achieve if you are saving money every year to match the rate of return the whole life policy projects.
The column named Death Benefit displays the death benefit projected in each year. Notice that the death benefit increases over time. This is a unique feature whole life insurance can use to augment the value that policy owners achieve through this type of whole life insurance policy.
Death Benefit Rate of Return reports the year-over-year compounding rate-of-return achieved by the premiums paid by the policy owner. This means that, for example, in year 15 a 17.39% rate of return on death benefit is the return one would need if he saved $35,000 per year to arrive at the same value of the death benefit on the policy.
Internal Rate of Return
Most insurance agents will talk about the internal rate of return (IRR) of a life insurance policy. Life insurers will also prepare ledgers that calculate and report it in the same fashion seen in the example ledger I used above. The term internal rate of return denotes certain assumptions about what is or (more specifically) what is not being factored into the calculation.
For the purposes of arriving at the rate of return of a life insurance policy, the internal rate of return is an acceptable calculation. In fact, I used an IRR ledger to produce the numbers I shared above.
So put very simply, whenever you see an internal rate of return ledger on a life insurance policy, you can think of it as the rate of return of the policy's cash value and/or death benefit given the planned premium payments.
General Guidelines for Expected Rate of Return
While rules of thumb are tricky because they tend to leave out subtle but important details that can dramatically alter results, I'll give you the following three major points to check on any whole life policy to determine if the approach is in fact conducive to building strong cash value.
First, it's reasonable to anticipate a rate of return by year 10 in the range of 2.75 to 3% on the cash value in the policy. Higher is certainly welcome (the above example is higher than this), but realize that your unique circumstances may not match the assumptions made in the above example and you may anticipate different results. This isn't a failure of proper design, it's a reality of your unique set of circumstances.
Second, you should be able to anticipate a rate of return on cash value after 20 years of 4.5% or better. In some cases, especially among people who are younger when they start a whole life policy, the results might break 5% at this point.
Lastly, the policy's cash value should exceed the amount of premiums paid by around years six through eight. If you look at a number of whole life proposals that are not specifically designed to optimize cash value, you'll often find cash value remains less than the sum of premiums paid for around 15 to 20 years. This is unacceptable if the plan is to buy the whole life policy as a vehicle to accumulate wealth for your personal use.
Notice that none of my guidelines mention the death benefit. The unique variations of specific whole life products among different life insurance companies will tend to make the death benefit vary quite a bit. You cannot use death benefit as a strong guide to determine if the policy uses a good design for cash accumulation. At least not if you have no background in reviewing life insurance policies.
Is Whole Life Insurance Worth It?
Whole life insurance offers many unique features that complement well other efforts to accumulate wealth. Its potential for cash value growth given its risk profile has no rival in the world of savings plans and investments. It's tax preferential features further augment its strength as a wealth accumulation and preservation tool.
In addition to its ability to accumulate cash value at a very reasonable pace, its death benefit will also open the door to several strategic options to replenish and/or derisk your overall asset pool.
While it's certainly not for everyone, you can unlock major benefits from this slower growing, but extremely stable asset option.
