I am sure that some of us has heard of the saying “Buy term, invest the difference” when buying insurance and investment products. However do we really understand what this means? So why do most financial planners recommend that we should “buy term and invest the difference” while some insurance agents keep on bugging you to get their recommended product ?

The majority of whole life insurance products available today is tantamount to “rip offs.” In fact, these kinds of products has already been phased out in the United States. When we talk about “term insurance”, this refers to insurance with life coverage only. On the other hand whole life insurance is a term policy coupled with investments. Your insurance agent will always present whole life insurance as something that will “force” you to save for your retirement. This is actually good, but the problem with this setup is that most insurance companies do not usually give a good rate of return for the “investment” component. Sad to say, whole life insurance products are still actively sold in the Philippines. People still buy these products because of lack of financial know-how.

To drive home the point, let me give you an actual situation. Sometime last week, my mother asked me if she should continue paying an insurance product she got for my sister. The total price for it was about P 400,000.00 (Philippine Peso). Half of it is already been paid leaving a balance of P200,000.00.

I asked her what the benefits of the insurance product were. She said that after 20 years, my sister who is still 18 years old will receive P 40,000.00 per year until she reaches the age of 65. At the age of 65 she can choose to receive P400,000.00 lump sum. If she chooses not to receive the P 400,000.00 lump sum, she can choose to continue receiving P 40,000.00 for the rest of her life. Plus she is also insured for two million pesos for the rest of her life.

I told her that we in order to determine whether she will continue paying the P200,000.00 we have to evaluate the benefits of the insurance product versus the “Buy term, invest the difference” scheme as suggested by most financial planners.

If you add the total money that my sister will be receiving, she will get a total of P1,520,000.00 at age 65, that is if she opts to get the lump sum at age 65, plus she is insured for two million pesos.

On the other hand the benefits of the “buy term invest the difference scheme” is as follows: The P 200,000.00 will be invested at a vehicle of investment that gives about 10 % return per annum. She will then re-invest the profits made through the investment in order to take full advantage of compounded interest. If she does this consistently she will get around P17,639,497.05 when she reaches the age of 65. As for the payment she already made for the insurance proudct, she will just ask the insurance company to convert what she has already paid into “term insurance.” This is usually good for only 20 years. (That is if her insurance company allows it)

Now see the difference !!! Under the insurance scheme you only get P1,500,000.00 and P 2,000,0000.00 worth of insurance. But in the “buy terms invest the difference strategy you get P 17,000,000.00+ !!! The benefits of the insurance product cannot be compared to the benefits under the buy term invest the difference startegy.

Insurance protection is no problem. Term insurance is very cheap. In order to be protected if ever her investments will suffer losses, she will just buy term insurance an renew it every now and then.

The next thing you could probably ask, what investment vehicle would give me 10 % return per annum? Well there is and there are lots of them. You can put it in mutual funds. It does not guarantee a rate of return but historically most mutual fund companies give you more than 10 % return per annum especially if they are invested in equities. Now that the stock market is very bullish returns ranges from 40 % to more than 70 % per annum. You can even directly invest in the stock market. Even the most conservative investors in the stock market earn more than 10 % per annum.

Now you know why buying term and investing the difference does makes sense !!!