Life Insurance as a Retirement Plan: Smart Strategy or Bad Investment?

Life insurance can do a lot more than just protect your family in the event of your death. With permanent life insurance policies, it’s also possible to use your life insurance plan to save for the future, including retirement.

But although many agents push these types of life insurance policies heavily, they’re really only worth considering for a small percentage of people. Here’s what you need to know about life insurance retirement plans, how they work, and whether you should consider them.

Life insurance retirement plans explained

If you buy a term life insurance policy, your life insurance beneficiary will receive a death benefit if you die during the policy’s term. Once the term expires, however, you’re no longer covered.

Permanent life insurance policies, on the other hand, remain in effect for the rest of your life and also include a cash-value component. A portion of your monthly premiums — which are often significantly higher than term policy rates — goes into this cash-value account, and the balance grows over time.

Depending on the type of permanent policy you choose, your cash-value balance may grow at a low but safe rate of return, or you may be able to take advantage of investments with a higher risk-return ratio.

The idea is that, over time, you can pay into your permanent life insurance policy and retain the protection it provides while building your retirement savings.

This approach to retirement is a long game. When I used to sell life insurance, I reviewed several projections for whole life policies, for instance, and it typically took 10 years to break even with the premiums and 20 years to yield significant enough growth to make it worth it.

Life insurance retirement plan: pros and cons

There are benefits and drawbacks to using a life insurance policy to save for retirement. Here’s what to consider before you purchase one.

Pros of using life insurance as a retirement plan

• Tax advantages: Your cash-value account grows tax-deferred like a traditional 401(k) or individual retirement account. This means that all the money you pay into the account in the form of premiums won’t be taxed if you cancel the policy to get access to your cash. Only the growth portion of the balance will be considered taxable income.
• Guaranteed growth: Most permanent life insurance policies offer a guaranteed minimum interest rate, which means that you don’t have to worry about your cash value dropping if the stock market declines. That said, if a life insurance agent shows you a projection of what your cash-value balance can be at a certain point in the future, that’s not necessarily guaranteed.
• An additional option for the wealthy: If you have enough cash flow to max out your 401(k), IRA, and other tax-advantaged retirement accounts, a permanent life insurance policy can be an excellent way to continue saving in such a way to limit your exposure to income tax in retirement.

Cons of using life insurance as a retirement plan

• It’s a costly way to invest. Whole life insurance policies cost between five and 15 times as much as term insurance policies. And if your financial situation changes down the road, you’ll risk losing the policy entirely if you can’t continue making those payments.
• Safe isn’t always best. The idea of getting a guaranteed minimum interest rate is appealing, but life insurance policies typically won’t give you the same returns you can get in the stock market. And if you’ve still got decades before you plan to retire, you can stand to take on more risk to get a better return.
• Projections aren’t guaranteed. When a life insurance agent shows you projections of what your cash-value account will look like 10 or 20 years in the future, you may not actually get those figures. For example, I purchased a small whole life insurance policy for my daughter when she was born, and the guaranteed cash-value balance is less than half of the projected balance after 20 years. That’s not to say you won’t get something closer to the projected balance, but it is a gamble you have to take.

When a life insurance retirement plan makes sense

In most cases, the drawbacks outweigh the benefits of purchasing a permanent life insurance policy to save for retirement. However, there are a couple of exceptions to that rule.

You’ve maxed out other retirement plans

Wealthy people who have maximized their tax savings via other retirement savings plans can benefit from adding a life insurance policy into the mix. In addition to providing tax-deferred growth, permanent policies also typically allow you to borrow from your cash-value account on a tax-free basis.

You can choose to pay back that money with interest, or you can keep it and it’ll be deducted from your death benefit when you die or surrender value when you opt to cancel the policy.

You need a permanent life insurance policy for other reasons

If you have significant health issues and a term life insurance policy, you may struggle to get a new policy when your current one expires. If you have a permanent policy, however, you don’t have to worry about losing your protection, and the cash-value component could be considered an added benefit.

Alternatives to life insurance for retirement

Even if you can afford to purchase a permanent life insurance policy, most people will benefit from buying a term policy and investing the difference between its cost and the price of a permanent policy. Investment options include:

• 401(k): 93% of employers offer a 401(k) or a similar employer-sponsored retirement plan, according to the Society for Human Resource Management. Of those, 75% offer a matching contribution, which boosts your retirement savings rate. Make it a goal to contribute enough to maximize the employer match — it’s essentially free money.
• Individual retirement account: Whether you have a 401(k) or similar plan, you can also save for retirement using an IRA. The only drawback is that IRAs have a relatively low annual contribution limit — it’s $6,500 if you're under 50 or $7,500 if you're 50 or older in 2023. For 2024, the limit is $7,000 if you're under 50 or $8,000 if you're 50 or older. Traditional IRAs offer tax-deferred growth like 401(k) accounts, and Roth IRAs allow your investments to grow tax-free.
• Health savings account: A health savings account (HSA) is primarily designed to allow you to save for eligible medical expenses on a tax-free basis. But if you don’t use those funds now, you can hold onto them for retirement, where health care can cost hundreds of thousands of dollars.

Life insurance retirement plan FAQs

Here are some of the most common life insurance questions we came across and their answers for you.

The bottom line on life insurance for retirement

Using life insurance to save for retirement isn’t a crazy idea, but it’s not the best way to save for most people. As with any financial product, it’s important to consider all of your options and consult unbiased sources to ensure it’s the best decision for you.

Before you get to that point, though, make sure you’re saving as much as possible into your 401(k) or similar employer-sponsored plan, IRA, and HSA.