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Ask Dave

Transferring Risk With Life Insurance

Jensen asks if he can cash in a term policy at the end of 20 years, or did he pay all of those years for nothing?

QUESTION: Jensen on Facebook asks if he can cash in a term policy at the end of 20 years, or did he pay all of those years for nothing?

ANSWER: If you buy a homeowner’s insurance policy and you pay on it for 40 years and your house never burns, do you get to cash it in? No. Did you pay all those years for nothing? No because what you were doing is you were transferring the risk of a loss of your home, and you could not afford the loss of your home. You transferred the risk, and you paid a fee to transfer the risk. That’s what insurance is.

Insurance is when you transfer a risk you can otherwise not afford on your own, and you pay a fee for that privilege. That’s what it is.

Term life insurance is exactly the same thing as your homeowner’s insurance or your car insurance. Did you waste money having car insurance if you never have a car wreck? Was that a waste of money? Answer: No, it was not a waste of money. You paid to transfer risk in case your car was torn up and you didn’t have the cash to replace the car. You paid to transfer the risk of being in a car wreck and harming someone accidentally—it’s called an accident—and you didn’t have the money to pay for their medical bills, so you transfer that risk. You paid a fee for that, but it was not a rip-off, and you were not done in just because you never did that . . . and you never got all your money back.

Term insurance is exactly the same way. You buy term insurance—15- to 20-year level term insurance—you buy 10 to 12 times your income. So if you make $50,000 a year, 10 times would be $500,000, 12 times would be $600,000, so somewhere in there, you buy term life insurance. If something happens to you, your spouse would get the $600,000 check from the insurance company. They could invest that, and it would create an income equal to your $50,000 income. We’ve transferred the risk of the loss of the income for your family. That’s what you’re paying for is the transfer of the risk.

By the way, term life insurance is about $5 per $100 for the same amount of whole life insurance that does build up a savings and gives you money back at the end, but they charged you $.95 more—20 times more. If you would take the same money you would have put into one of those rip-off cash value policies, buy inexpensive term life insurance, transfer the risk with that, do your investing in a good investment, you’ll wake up in a few years with hundreds of thousands of dollars in a good mutual fund.

Oh, and by the way, if you listen to The Dave Ramsey Show, you’ve paid off everything including your home in the last 15 years. Oh, and by the way, your kids—because you read Smart Money Smart Kids that comes out in April—are going to be grown and gone because they’ll be able to leave because they know how to handle money. If the kids aren’t at home and the house is paid for and there’s $600,000 or $700,000 in a mutual fund and you don’t have any life insurance and you die, is your wife okay? Answer: Yes. You became self-insured. But until you’re self-insured, you transferred the risk with an inexpensive term life insurance policy. I personally recommend That’s where I buy mine. They’ll shop a bazillion companies and get you the best deal.