MAKING CENTS: Is life insurance a good deal for everyone?

When I hear people refer to life insurance as a bet against themselves, I just cringe. The truth is that life insurance is a bet in favor of your family, one that may help them get through some challenging times following the death of a loved one.

Think of a properly structured and funded life insurance policy as an investment that will someday pay a benefit to your beneficiaries. Not all insurance contracts are guaranteed for life, so perhaps your first order of business is to see whether your policy is on a track to last as long as you do.

The next important criteria would be the internal rate of return (IRR) on death benefit. The IRR tells you what the equivalent annual rate of return you are expected to earn for your heirs because of the continued premium payments and the ultimate death benefit that gets paid out.

Naturally, if one dies sooner into the contract, the internal rate of return is quite high. If one lives to life expectancy, many companies are currently illustrating about a 4 to 5 percent IRR. For those who live well past age 90, that IRR may drop to 2 – 4 percent.

Given today’s low interest rate environment, even the most pessimistic life insurance pundit may agree that the IRR forecast is fairly attractive. It looks even more attractive when you consider that these proceeds are received income tax free, and if structured properly, can also avoid all death and transfer taxes.

The risk of a life insurance policy not meeting expectations lies in the assumptions used in the insurance illustration. Companies assume an ongoing rate of return for the premium dollars that they receive.

Typically premium dollars are invested in very secure fixed income vehicles, and are not earning too much in today’s market. They forecast an interest rate that will be credited to any cash value accumulated in the contract. These rates will change over time.

Similar to the interest crediting rates, some companies build anticipated dividends into the forecasts. These dividend scales have been under pressure during this low interest rate cycle.

The last assumption is the mortality costs of the insurer. Some contracts come with a fixed mortality charge; these are the most costly in the early years. Other contracts continue to raise the mortality costs each year and then have a cushion built into the contract allowing them to increase.

If you are comparing apples to apples in terms of assumptions, your IRR on death benefit is one of the best ways to truly evaluate the cost of a life insurance policy.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. John Napolitano is a registered principal with and securities offered through LPL Financial. Member FINRA/SIPC. He can be reached at 781-849-9200.