The phrase “Buy Term (and) Invest the Rest/Difference” or “BTIR/D” has been around and accepted by many without any questions. There is even a wildly popular financial services website that advocates term insurance against whole-life plans, dismissing the use of whole-life plans altogether.
The BTIR model advocates that we get term insurance to cover our needs till our retirement age and use the difference to invest. Based on the model, our investments would have grown to a sizeable amount when we retire that we no longer need the term protection. Sounds good aye, but is this the whole truth?
I used to subscribe to this school of thought of BTIR as well, until I analysed the numbers for myself, and realized that hey, both have their merits and use in managing a person’s financial risk.
Both term and whole-life insurance should be used for protection needs only. To understand which instrument to use for each protection need, we first need to recognize that:
Some of our protection needs are short-term, and some are long-term
Utilizing term insurance as a “one-size fits all” solution to our financial planning would be neglecting the fact that some of our protection needs are short-term and some are long-term. Our protection needs throughout our lives would be better represented by the following chart:
The need to cover for responsibilities such as to provide for children, parents and mortgage will likely taper by about retirement age. Term insurance is great for all these “Commitments Coverage”. You can BTIR on that.
However, the need to cover for critical illnesses (“CI”) do not magically disappear at age 65 (or any other age). Rather, it continues right into our retirement years, just like how we need hospitalization coverage for life. Are we immune to getting critical illnesses after age 65?
“But I would have retired then, it doesn’t matter if I am sick since there is no loss of income.”
No doubt, there is no loss of income. But we continue to incur CI-related expenses even if we are not not working.
Examples of such expenses could include hiring of a care-giver, additional transportation costs due to mobility problems, medical expenses or novel treatment that are not covered by our hospitalization insurance etc. We also should take inflation into account when quantifying the value of this protection need. Hence, there continues to be a critical illness coverage need even during retirement years.
So, Do We BTIR or Whole-Life for Our Life Coverage of CI?
Let’s use the example of our fictional friend Jamie to explore this question.
Jamie is 30 this year and overworked as an auditor. He is single and looking for the right girl (when he has the time), doesn’t smoke but indulges in a glass of whiskey every week or two. He intends to retire at age 65. After a review with his financial planner, they quantified the amount of CI coverage he needs to be about $200K.
He is presented with two options – term or whole-life plan. (Note: this example is based on the least expensive term plan for 35 years from CompareFirst and the least expensive whole-life plan in the market):
Jamie notices that the total premiums payable for a whole-life plan is more than that of a term plan. But he wonders if the premiums tell the full story and what are the real implications of each option in the long run.
Jamie goes BTIR till age 65
If Jamie had BTIR and has cancer at age 66, gasp, guess what? He no longer has any coverage. Wait, he has investments – he had invested the amount he saved by buying term. But Jamie had been too busy with work and life to monitor his investments. His portfolio was only performing at a modest rate of 5%. And, the economy is down – he could potentially lose 30% of his portfolio if he cashes out now.
But Jamie has no choice, he needs the money. He would like to seek the best treatment possible to get well. His grand-daughter, Andrea, has just been born and he adores her so. He liquidates his portfolio and gets $60,000, and (gulps) dips into his retirement fund.
In fact, to achieve $200,000 at age 66 using the money saved from buying term insurance, Jamie’s portfolio would have to be performing at an annualized rate of at least 7.5% per annum – which is not an impossible task for some investment-savvy people. But, would it be a good year to cash out?
BTIR assumes that all of us can achieve consistent stellar investment returns, even if at the point of making a claim, the market is down. This is a crucial consideration.
P/S: The calculations are appended below, if you are numbers-geeky B-)
Jamie goes Whole-Life
Jamie pays a little more premium for 15 years till he is age 45 and gets CI coverage for life. Unfortunately, at age 66 he gets cancer. Fortunately, his whole-life plan gives him $200,000 and he uses it to seek the best possible treatment. He recovers with the comfort of knowing that his retirement funds are still intact. “Grampy” Jamie relishes all the time spent with his baby grand-daughter. Good job, Jamie!
Wow, I Never Thought About That
Buying term and investing the rest is a very sexy idea. It could work for some people who are good at making magic out of their investments and have the time to monitor it, and who also can resist all fears and thoughts to exit the market each time there is a downturn. It also hinges on market conditions being optimal at the point of claim, which is a risk beyond our control. If you are confident of your investment prowess and accept the risks, then BTIR is for you.
For the rest of us, getting a whole-life plan to cover for critical illnesses might work out to be the most prudent option.
OKAY I Totally See Your Point. But I Am Also Curious – What If Jamie Goes BTIR Beyond Age 65?
Let’s entertain this thought and extend Jamie’s coverage to two hypothetical ages – age 85 and 99:
Term insurance is an inferior instrument to cover for critical illness during our retirement years. It is way too exorbitant to use term insurance for cover for CI when we are old. Even if we are aged 50, it would have made more financial sense to buy a whole life plan over term insurance to cover for critical illnesses – subject to our health condition then, of course.
Before You BTIR
First consider if the protection need you are covering for is long-term or short-term. Term insurance is an affordable option for “Commitments Coverage” such as death and TPD, or for short-term CI.
BTIR may not be a suitable strategy for everyone when using it to cover for a long-term need such as CI in our retirement years. Whole-life plans may be a better solution, and will make our financial plans more robust.
Do not overinsure on the amount of whole-life coverage to get. The amount of whole-life coverage to get should be tied to the amount of critical illness coverage you need during retirement years. If you would like to find what is the amount of coverage you need, I will be happy to analyze and plan together with you.
Do not end up with the most expensive whole-life plan – all the benefits of getting a whole-life plan over a term insurance will not apply to you if you are purchasing an expensive whole-life plan.
If budget is a constraint, it is more important to get sufficient CI coverage using term insurance first and consider whole-life plans when you have more budget to work with.
Finally, if you are a smoker looking for critical illness term coverage, you should only consider using a whole-life plan to do so.
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Note: Author is a financial planner with one of the largest independent financial advisory firm that partners with most of the insurers in Singapore.
Calculations of IRR
