Every financial product poses risks and carries advantages for consumers. Well-structured financial plans typically contain a wide variety of products to meet the consumer’s needs and objectives. Mutual funds and life insurance are very common financial products, accessible to even lower-income individuals. When money to set aside for the future is limited, understanding the differences between life insurance and mutual funds helps consumers allocate their money efficiently.
Death can drain a family’s savings and remove part or all of its income. Insurance companies offer a variety of life insurance products that pay a specified amount to the designated beneficiary upon the death of the insured. A well-designed life insurance program can protect families against the financial risks of death. Every family has different goals and risk tolerances. Some may want to cover funeral costs only. Others want their family to enjoy all the plans they had worked on together, such as retirement.
Some varieties of life insurance, such as whole life or universal life, build cash value that grows tax-deferred. Most types of life insurance cannot decrease in cash value unless the owner elects to withdraw it. When bank interest rates are low, the growth of cash value may be an attractive investment; however, cash value growth rates tend not to respond as quickly if bank interest rates increase. While the safety and preferential tax treatment might attract some consumers to purchase life insurance as an investment, the primary function of life insurance is to pay out a death benefit after the insured passes away.
Building an investment portfolio with a balance of stocks appropriate to the investor’s objectives and risk tolerance requires a large amount of knowledge and effort. Few consumers have the time or interest necessary to become expert investors. Mutual funds allow families to shift the responsibility of building and managing a diversified portfolio to a qualified expert. Investors purchase shares of a mutual fund, providing the manager money to invest. As the values of the stocks held by the mutual fund change, the value of shares in the mutual fund change as well. Mutual fund share holders can be liable for taxes on any dividends or capital gains from the fund, even if the money was reinvested in the fund.
Balancing Insurance and Investment
Life insurance and mutual funds accomplish different tasks for investors. When budgeting out discretionary income, it is important for families to discuss what risks they want protection against and what objectives they want to accomplish. When purchasing life insurance, families should make sure the death benefit is sufficient to provide for their plans in the event of a death before considering other features of the insurance such as cash value or return of premium riders. Remaining funds can be invested in mutual funds that match their risk tolerance and investment objectives.
Sean Butner has been writing news articles, blog entries and feature pieces since 2005. His articles have appeared on the cover of "The Richland Sandstorm" and "The Palimpsest Files." He is completing graduate coursework in accounting through Texas A&M University-Commerce. He currently advises families on their insurance and financial planning needs.