What is Buy Term Invest the Rest?

Buy Term Invest the Rest is a strategy that provides an alternative to whole life insurance policies. The rationale for such a strategy is that one can invest the savings in premiums one receives by purchasing an inexpensive term policy rather than a pricier whole life policy. The accumulated savings and investment returns will then make up a sum of money for one’s insurance needs in future when the term policy ceases.

Here’s the Math for such a strategy:

Jack, a 24-year-old non-smoking man, wishes to insure himself for $200,000 against death, total & permanent disability and critical illnesses. A 35-year term policy will cost him $642 a year. A whole life policy costs $3,018.00 per year, and the premium term is 35 years (he pays 35 years of premiums to be covered for his whole life) for the sake of easier comparison.

The difference in premiums works out to $2,376 a year which can be invested.

Whole Life Policy
At Year 20 at 5.25% projected investment return
Coverage Payout: $277,066
Surrender Value: $68,925

Buy Term Invest the Rest
At Year 20 at 7.5% projected investment returns
Coverage Payout: $200,000
Accumulated Value of Savings: $110,609

After 20 years, the whole life policy will be providing for $277,066 amount of insurance coverage. If a claim is made, only this amount is paid out to Jack (or his family if he dies), and the policy is terminated. For the term policy, a claim amount of $200,000 would be paid out. On top that, Jack is able to liquidate his $110,609 of accumulated savings if he wishes.

Whole Life Policy
At Year 35 at 5.25% projected investment return
Coverage Payout: $345,810
Surrender Value: $174,615

Buy Term Invest the Rest
At Year 35 at 7.5% projected investment returns
Coverage Payout: $0 (Term policy expires)
Accumulated Value of Savings: $393,989

As you can see, the difference in the premiums can be invested to give an accumulated sum of money in the future after the term policy expires. This sum of $393,989 belongs entirely to Jack and he can self-insure. No claims need to be made nor is there any definition for critical illness to be met – Jack is able to use this sum of money for contingencies should he have a use for the money, or simply leave it to his beneficiaries when he passes away as if the sum of money was an insurance payout. This is perhaps one of the strongest advantages of buying term and investing the rest as the money is not like a claim that is subjected to approval.

One thing to note is that there is a disparity in the projected investment returns compared. Let’s consider a similar return of 5.25% pa with an expense ratio of 1.0% pa.

Buy Term Invest the Rest
At Year 35 at 4.25% projected investment returns
Coverage Payout: $0 (Term policy expires)
Accumulated Value of Savings: $191,865

The accumulated amount of $191,865 is now lower than what the coverage of $345,810 the whole life policy is providing, though there is an advantage that there is no need for a claim for Jack to use the sum of money.

In the first place, one of the reasons for Buy Term Invest the Rest is that many people, including Jack who is a young person, are able to take higher risk for potentially higher investment returns than what the insurance company is able to offer for such whole life policies, especially in the long duration of more than 20 or even 30 years of coverage a term policy provides. It is arguable that the conservative portfolio a whole life policy is invested in is too conservative for people who are young and/or have a long time horizon for investment.

There are many more considerations when it comes to how one should go about insuring oneself. Personally, I feel that most people lie somewhere in the middle between the continuum of being suitable for “100% Buy Term Invest the Rest” and “100% whole life coverage”, with many closer to the side of buying term (ie, a mixture of both term and whole life policies with a greater emphasis on term). Only with a proper and unbiased description of the two can consumers have an informed choice. The reality is that most consumers believe premiums for term to be a waste of money, not knowing that there is a cost of insurance to be paid regardless if it’s a term or a whole life policy. Agents are more than happy to perpetuate such a misunderstanding as the commissions for whole life policies are more attractive.

13/7/2011: This post has been published on Yahoo SG Finance.

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17 responses.

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  • Reply
    la papillion said 1034 days ago:

    Hi Seth,

    I like your post. It gives a balanced view of things. I think both camps are right in their ways, so the truth lies in between the two extremes.

    I’ve both whole life and term, btw, haha :)

    • Reply
      Seth said 1033 days ago:

      Hi la papillion, thanks for the compliment. Glad you found the post balanced.

  • Reply
    Eugene said 1030 days ago:

    Hi Seth,

    Thanks for the write-up. I’ve read somewhere on the possibility of escalating mortality charges eating into the cash value for WL during old age- just wish to ask how true is this?

    If the BI only shows till age 65 then how do we know what’s the projected values beyond that, e.g. age 70/75 etc…

    Thanks!

    • Reply
      Seth said 1030 days ago:

      Hi Eugene,

      When I analyse BIs, I sometimes get frustrated at the limited projection of age, ie. stop after certain age, intervals of 5 years. If it was up to me, I will ensure that insurers project every single age until 99 at least for whole life policies for the sake of clarity and easier comparison.

      You raised a great point which I also did when I was much younger in this business, and it also makes me feel more inclined towards buying term policies. Thanks for highlighting this as I think it makes for another blog entry. (My ex-company at that time could not/did not want to give me a direct answer.)

      I generated a quote for a 57 age next birthday male for a whole life plan so that the projection will go into the 90s. The sum assured is $100,000, and the following values are projected at 5.25% investment return:

      Age NB: Death Benefit – Cash Value = Difference
      82: $149,425 – $117,852 = $31,573
      87: $160,873 – $135,397 = $25,476
      92: $172,905 – $155,776 = $17,129
      97: $185,550 – $176,281 = $9,269

      As you can see, the difference between the Death Benefit and the Cash Value one receives upon surrendering the policy becomes increasingly small. Perhaps this is why insurers don’t like to project beyond a certain age. It’s not so much the mortality costs eating into the cash value (like an ILP), but rather the insurer reducing the sum at risk to itself. Towards the end, the insured is almost as good as insuring himself with his own cash value rather than the insurer providing coverage. Quite a raw deal, isn’t it?

  • Reply
    Eugene said 1029 days ago:

    Hi Seth,

    Thanks for the comprehensive reply. I’ll not consider LWL if not for the possibility of lifetime CI coverage.

    Ultimately the insurance companies make profits but it’s more a matter whether consumers are adequately insured.

    Thanks again.

    • Reply
      Seth said 1028 days ago:

      No problem. In my opinion, the current situation is that many insurance companies and their agents are making obscene profits at the expense of their clients.

  • Reply
    Annoymous said 1015 days ago:

    Hi Seth,

    Jack who is a young person, are able to take higher risk for potentially higher investment returns than what the insurance company is able to offer for such whole life policies, especially in the long duration of more than 20 or even 30 years of coverage a term policy provides.

    Can you tell me where to get 7.5% compounded returns for the next 20-35 yrs?

    Even if we BTIR, we may not even get better than 4% compounded annually.

  • Reply
    Annoymous said 1015 days ago:

    Using 7.5% projected investment returns as a calculation is very misleading.. at least to me. And how many people can get 7.5% year after year?

    • Reply
      Seth said 1015 days ago:

      I don’t see why it is misleading. I have included a projection a 4.25% to show the effect of a lower return on a Buy Term Invest the Rest strategy. If someone feels that he/she can only get 4% p.a. due to being risk averse, it is likely that he/she belongs to the whole life side of the term-whole life continuum as I have already mentioned.

      A whole life policy only delivers what it projects at 5.25% if it does equal to or better than 5.25% p.a. The underlying investment of a whole life policy is a fairly conservative portfolio of about 30% equities, 60% fixed income and 10% cash and other assets. One can expect a more aggressive portfolio of perhaps 70% equities and 30% fixed income to do better in the long term.

      Most people can have a higher capacity for higher returns in a long term of 20-30 over years. There is no such thing as 7.5% year after year. There is such a thing as 7.5% pa compounded after a period of 35 years.

      The Straits Times Index has performed at almost 6% p.a. for the past 5 years. With dividends reinvested, it is more than 9% p.a. Historically, the STI has moved from 824.40 in 1987 to 3445.82 in 20 years in 2007, representing 7.41% p.a. growth:

  • Reply
    louis said 912 days ago:

    1)I am a little sceptical that you can buy a 35-year term policy at $642 a year. Which insurance company can you point out to me? I would gladly pay $642 x 35yrs = $22470 if I am 24 years old now like Jack. Are you telling me that the yearly premiums is linear thoroughout? If YES, I would buy it now. Else your arguments will be seriously flawed.

    2)Projected investment returns: how many ordinary people are savvy enough to make even 4% investment returns on a yearly basis for the next 35 years? Let alone 7.5% annually for 35 years?

    • Reply
      Seth said 910 days ago:

      Hi Louis,

      1) I will be glad to help you transact the term policy which is a level premium of $642/yr for a 24-year-old non-smoking man for $200,000 on death/TPD/critical illnesses. I can give you at least 3 different quotes around that premium rate from various companies. Do email me to set up an appointment.

      2) Which is why I encourage ordinary people to seek financial advice. People who are not confident of reaching certain investment returns can either get an adviser to help them, or otherwise seek advice for other suitable solutions for wealth accumulation.

  • Reply
    Kylie Sng said 878 days ago:

    Hi Seth,

    I will need advise finanical planning for my family. Currently what is your fee like ?

    • Reply
      Seth said 876 days ago:

      Hi Kylie, please check the email which you have used to comment. Thanks and regards – Seth.

  • Reply
    Daniel said 625 days ago:

    Hi Seth,

    Found your post interesting. Although its has been a while but i just like to give my two cents.

    First,

    You are using a whole life plan vs a 35 year term plan, not a fair comparison cos you should be using Term coverage till age 99 to compare. becos, your eg, age 24 buy term 35 years only make him 59 years old? whereas, WL give him a choice to continue if he want.

    Second,

    Life plan pay premium only up to age 84 not WL.

    Buy Term invest the rest??? During 2008/09 I personally know of people liquidating their investment at low price. It work provided the person managed it has Financial IQ.

    • Reply
      Seth said 624 days ago:

      The whole premise of “buy term invest the rest” is to obviate the need for whole of life coverage. The comparison is not unfair; the term coverage ceasing after a term is exactly the point of “buy term invest the rest”.

      I have already shown the effects of the whole life coverage continuing versus the ability to self-inure in a “buy term invest the rest” strategy.

      The life plan I illustrated has a premium payment term of 35.

      This is an academic look at “buy term invest the rest” that does not take into consideration a person’s financial savviness. This blog post does not constitute personal financial advice which should be sought separately. I have also mentioned in the post that there are many considerations when it comes to a person’s coverage. This is merely a description of an alternative method that many practitioners are unwilling (due to vested interests) or unable (due to lack of competency) to share.

  • Reply
    Ari said 612 days ago:

    Hi Seth,

    I’m looking for an insurance to cover myself and my husband, and was considering NTUC Vivocare and need some advice if it’s needed.

    What is your commission structure like?

    Thanks,
    Ari

    • Reply
      Seth said 611 days ago:

      Hi Ari,

      Please check your email, thanks!

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