3 Benefits of Whole Life Insurance in Your Retirement Plan, with Dr. Wade Pfau

Most people don’t see the need for life insurance in their later years, let alone the benefit of whole life insurance in their retirement plan. By retirement, you may expect to have your home paid off, and not have the same income needs as before. You may even decide you’re not retiring at all if you can help it.

Even still, there are tremendous advantages to having whole life insurance that lasts for your whole life. This includes having insurance beyond what most consider their life insurance needs. Tune in today for this eye-opening conversation with Dr. Wade Pfau about the three key benefits of whole life insurance in your retirement plan.

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The Nature of Retirement Income

[5:19] “What makes retirement income different is that the nature of risk changes… just in looking at how the investment world approached retirement income, I developed concerns.”

Those concerns led to Dr. Pfau looking into assets that are traditionally not considered retirement assets, like life insurance. Life insurance isn’t common in retirement plans because many people don’t believe they need it anymore. However, life insurance has benefits that many people don’t consider, and aren’t taught to consider. 

[5:56] “In the risk management context of retirement… potentially looking at different tools, not just using only an investment portfolio to fund retirement expenses, can help lay that foundation for a better retirement outcome.”

When you only have investment assets for retirement, you have a sequence of returns risk. This means that you risk significant losses because you can’t time the market in retirement. After all, you’ve got to take your income to eat and pay bills.

The Benefits of Whole Life Insurance in Your Retirement Plan

The value of whole life insurance is that “the cash value is not exposed to the risk of loss,” as Wade says. The cash value is a non-correlated asset and grows no matter what is going on in the stock market. 

[7:25] “It can provide a resource to cover spending on a temporary basis during this kind of bad market environment so that you don’t have to sell from the portfolio to fund spending… Well, then that gives the portfolio an opportunity to recover and to make up those losses again before we have to go back to selling from it.”

[8:01] “Ultimately the benefits [of whole life insurance] to the portfolio exceed the cost of the insurance to give a better net outcome, especially when we consider the tax advantages and so forth of life insurance.”

How Does the Volatility Buffer Work?

A “volatility buffer,” as Wade Pfau calls it, is an asset that can help your investments during market downturns. The idea is that after the market dips, you can pull income from your volatility buffer to minimize your losses and give the account time to recover. When you give your investments some breathing room, you can extend the life of your investment account by years.

An ideal asset for a volatility buffer is whole life insurance because it’s flexible and liquid. Not to mention, the death benefit provides some protection for your estate and assets. Whole life insurance gives you some freedom to spend without disinheriting heirs, too.

Inflation Risks

In conversations about retirement, people often ignore the impact of inflation. The harsh truth is that due to inflation, you will need more money in the future to have the same financial impact today. The equivalent of $100k salary now is going to be much more in the future. 

[22:25] “Inflation has this permanent impact. Because if prices are up at eight percent this year, then even if inflation comes back down I’m still kind of working from this permanent base of eight percent higher expenditure needs, if my spending keeps growing with inflation.”

[22:45] “Inflation is creating more risk for the financial plan because I consider it more of a spending shock. It’s a situation where people have to spend more than they anticipated. And if [I anticipate] in my planning, that inflation would be two or three percent, and I get hit with eight percent inflation, it’s requiring me to spend more to meet my retirement budget. And that’s putting more pressure on the financial plan because it’s making it harder for my asset to keep pace.”

See also:

• https://themoneyadvantage.com/protect-money-against-inflation/
• https://themoneyadvantage.com/what-to-do-about-inflation/

Building a Retirement Income Plan

When building a retirement income plan, Dr. Wade Pfau asserts that it comes down to a combination of what you value and how comfortable you are with risk. You can create a diversified plan by choosing a combination of stocks, bonds, and whole life insurance. Annuities can also provide some balance for retirees who desire contractual protection over their income. 

[16:28] “For anyone who’s worried they might live longer than their life expectancy—which is the age where there’s a 50% chance you live longer than that—anyone worried about living beyond that, the annuity will allow them to spend more than bonds will.”

[17:17] “The important point is, I think in the investments world there’s this notion that it’s very easy for stocks to do so well that they just blow away the value of an annuity. And the reality is that’s not the case. This risk pooling that insurance can provide allows for a lot more spending than bonds in a way that’s competitive with the stock market. I mean, if the stock market does very well, it would outperform the annuity. [Still], if the stock market does average, then the annuity is going to be right alongside it in terms of the ability to fund a spending goal over a long retirement horizon.”

The Reality of Stock Market Returns

[27:42] “Over time, the growth rate is not equal to just the average return over time… If the portfolio is down twenty percent, so you go from 100,000 down to 80,000, you would then need to have a 25 percent gain to get back to where you started. And if you’re furthermore spending from the portfolio, that’s even further ramping up the gains that you would need to offset so that you can get back to your initial portfolio value.”

[28:!5] “There’s a popular radio host who talks about 12% stock market returns. But he’s completely confusing this point. That’s not a growth rate over time, that’s a historical [average]—I take all the historical stock returns and divide by the number of years, and I get 12% on the S&P 500. But if I’m going to invest in the S&P 500, the historical growth rate is much lower.”

[39:55] “Not that I’m going to try to time the market and abandon stocks, but I’m just going to work from the assumption that stocks will provide a lower return and so I can’t rely on 7 or 8 percent type returns for my financial plan.”

Whole Life Insurance In Your Retirement

[42:55] “Because I’m from the investments world, I was skeptical at first. And when I first started looking at it, there was some naïve analysis out there of basically just introducing an extra life insurance policy at retirement.”

While permanent life insurance has higher premiums, it fulfills a need and allows you to create a volatility buffer. It has a lot of flexibility that helps you protect your portfolio, even though it may restrict what you can contribute to your investments. However, you will likely be in a better, more protected position if you have the insurance than if you don’t. You’re also more likely to leave a greater legacy. 

Ultimately, when you’re coming up with your retirement income plan, the question is, how comfortable are you with relying on market growth alone? From there, you can build assets and options that work for you. 

Links Referenced

• Retirement Researcher
• White Paper: Integrating Whole Life Insurance Into Retirement Income Planning
• Check out Dr. Pfau’s last appearance on The Money Advantage

About Dr. Wade Pfau

Wade D. Pfau, Ph.D., CFA, RICP®, is the program director of the Retirement Income Certified Professional® designation and a Professor of Retirement Income at The American College of Financial Services in King of Prussia, PA, as well as a co-director of the college’s Center for Retirement Income. As well, he is a Principal and Director for McLean Asset Management and RISA, LLC. He holds a doctorate in economics from Princeton University and has published over sixty peer-reviewed research articles in a wide variety of academic and practitioner journals. He hosts the Retirement Researcher website and is a contributor to Forbes, Advisor Perspectives, Journal of Financial Planning, and an Expert Panelist for the Wall Street Journal. Wade’s newest book is Retirement Planning Guidebook: Navigating the Important Decisions for Retirement Success.

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