Life Insurance…Do You Know The Many Roles It Can Serve? (25:51)
In this episode, we explore the topic of life insurance – why you need it, the role it can serve in your financial plan, the differences in types, and more. Most importantly, we simplify the context of life insurance so you can make an informed decision. According to the Life Insurance Market Research Association (LIMRA) and LifeHappens.org, three in five adults have life insurance, 61 percent know they don’t have enough, but think they can’t afford more. Find out why life insurance is something you seriously need to consider as you evaluate how to navigate your financial future.
Brian Leitner: Welcome to Your Life, Simplified. My name is Brian Leitner, and I’ll be the host of this podcast. Within this episode, our goal is to educate you on life insurance, why someone might need it, the role it serves in someone’s financial plan and hopefully simplify the context of life insurance, so you can make informed decisions within your own financial plan. And today on the show, to help me explain the process and various aspects of life insurance, I have George Fernandez and Ed Simms from Mariner Wealth Advisors. Guys, thanks for coming on the show today. George, just maybe 60 seconds on your background.
George Fernandez: Absolutely. I’ve been working with clients in helping them make these types of decisions for about 18 years and right now my role at Mariner Wealth Advisors is to help advisors have the right kinds of resources so they can help clients answer these kinds of questions.
Brian: Ed, you run the life insurance practice at Mariner Wealth Advisors. Can you tell us a little bit about your background?
Ed Simms: Sure. My name is Ed Simms and I’m the director of the insurance solutions division of Mariner Wealth advisors. I’m life insurance licensed in all 50 states. Additionally, I’m a designated chartered life underwriter and a chartered financial consultant.
Brian: Guys, thanks for coming on the show. I’m excited to do this podcast because life insurance, like I said, is one of those things that is absolutely critical in one’s financial plan, but because it deals with our own mortality, a lot of people don’t like to have it, and quite honestly within the business there are a lot of folks who are out there who are in the business of selling life insurance as opposed to perhaps truly trying to understand an individual’s situation and walking them through a variety of ways to protect them, especially to protect them and help them accomplish their goals should something unfortunate happen. I pulled a couple of stats that I thought might help us get started, and this is from a LIMRA, which is the Life Insurance and Market Research Association, one of the largest organizations as it relates to insurance. It’s out there, as well as, lifehappens.org, which is again another trusted resource in the insurance business.
Brian: And they’ve pulled together a couple of stats, and I just wanted to at least share these with you as we go through the podcast. So the first one is three out of five adults have life insurance and that number has increased substantially over the past 25 years. One in five don’t believe they have enough. Sixty-one percent know they don’t have enough but don’t believe that they can afford to buy more insurance, because they have other financial priorities. One out of three buy insurance online, and up to 50 percent of people would buy more if they didn’t have to go through the dreaded medical exam. So with that said, maybe as a backdrop, let’s talk a little bit about why people need life insurance.
Ed: To understand the life insurance needed, we first need to understand the process of analyzing risks, and I classify risk into three categories: avoiding risks, accepting risk and transferring risks. Life insurance falls into the category of transferring risk, because there’s not a way to avoid it—no one is getting out of this place alive. I’ll just give some examples of avoiding risk. Maybe it’s deciding not to drive a motorcycle or smoke cigarettes. Those types of things are avoiding risks. Accepting risks are examples like, everybody knows you play blackjack. They always say don’t take the insurance. So you accept that risk. Or when you go on a big vacation, and they ask you if you want to buy the insurance on the vacation package, you say no. That’s a risk you accept. But as far as transferring risk, life insurance, and we’ll get into this a little bit more detail, is a risk that is easily transferable and makes a lot of financial sense.
Brian: So, Ed to your point, insurance truly is the transfer of risk. Whether we’re talking about life insurance, disability insurance, car insurance, homeowners insurance, it’s the transfer of risk. And it’s always been interesting to me when we think about car insurance or homeowners insurance, most of us have it. We pay it. We may not be happy to pay it, but we pay it. But then we look at things like life insurance and disability and other types of insurance and sometimes we struggle to reconcile, do I really need this? I don’t want to pay for this. I just think that’s an interesting take that I hear a lot of folks discuss. So there are a variety of reasons that people might need life insurance. It might be for income replacement, which is you’re protecting against perhaps somebody dying and making sure that there are funds available for the family or taking care of whomever may need to be taken care of.
Brian: There may be a liquidity need, maybe there’s a business and someone died, and the owner of that business needs to be bought out. So insurance can provide for liquidity of that transaction. They might need it for estate planning opportunities. And today at the time of this podcast in 2018, the estate tax exemption for a married couple is approximately $22 million. So there are a lot of folks who may not need to worry about the estate tax, but they may want to consider it for wealth transfer purposes. Insurance can be a very effective way to transfer wealth to a family member or a loved one in a very tax efficient matter because life insurance, by its nature, is exempt from federal income taxes. And this episode we’re really focusing on income replacement. So, Ed what are some of your thoughts as it relates to income replacement and the role of insurance?
Ed: So as it relates to income replacement, my goal is to help people understand in a very simple manner of why and how much life insurance they need given their specific set of facts and circumstances. We read books and magazines and hear papers and everything about how you should have X amount times your income for life insurance, right? It depends on what you read. You’re going to see different amounts. But to simplify this process, the way I like to position the need for life insurance is to say, okay, you don’t wake up. Your family needs income. We’ve got to replace that income because you’re gone and that paycheck is going to stop. So, what we’re going to do, is we have to recreate that paycheck because you’re not here, okay? So we have to have a pool of money to recreate that income.
Ed: For purposes of this conversation, we’re going to use about a 5 percent rate of income. So, what that means is, for whatever we need for income, so let’s just use an example of $200,000 a year. Your surviving spouse needs $200,000 a year to live on. We need to take that number times 20 okay? We come up with with a number of $4 million, so we need to have a pool of $4 million. That doesn’t mean we need $4 million in life insurance, it just means we need a pool of money. So we’re going to take a look at all of our assets and then liquidity and be able to generate income. And then we’re going to subtract all those assets from that number. So, let’s say there’s $500,000 in a 401(k). Let’s say there’s $300,000 in taxable investments, and let’s say there’s $200,000 in cash and other investments. So that’s $1 million. So our gap between that pool of money, in terms of what we have versus what we don’t have, is $3 million. So we have a need for $3 million in life insurance. You don’t wake up, we’ve got that pool of money to provide that. The $200,000 on a five percent basis, everyone uses different assumptions, but we have to start somewhere. By focusing on the simple method, we can understand exactly what that gap is.
George: Yeah, that’s a really great explanation. And you know, maybe some people are probably thinking right now as well, what does that $200,000 come from? The things we look at when we look at coming up with that initial number, or that need number, it’s looking at needs such as making the mortgage payment, paying for the college education, putting food on the table, putting insurance to cover the house in case something happens to the house. It’s all those lifestyle expenses that come into play, which really raises a really important question maybe as a follow up. And that is, if you’re listening right now, and you’re thinking, “Well, what if I’m a stay-at-home spouse? Does that mean I don’t have income to replace?” How does that factor into this need?
Ed: There isn’t a specific guideline for that—it’s a personal preference. But at the end of the day, for example, if my wife passed away, I would definitely want to be able to have time to spend with my children, maybe not work so hard. So, I would need some relief there from an income perspective, because if I chose to do that, I would definitely want to take off a year of work or something like that. That really becomes personal preference on the surviving spouse unless we’ve got young kids at home, and we’ve got a nanny to take care of the kids and that depends on where you are geographically and how all those fees are and so forth.
George: Really great point as you look at all those household expenses. If the stay-at-home spouse is actually taking care of the lawn care involved there, maybe there’s household chores, just general chores that you’d have to find somebody to do that or that becomes your responsibility. You kind of have to make a family decision about that, don’t you? And then whatever those expenses are would be added into that or become part of that $200,000 I think as you described.
Brian: Obviously having the funds just provides for much greater flexibility, especially in a time in which there are a lot of unknowns, so great points guys. So, in the insurance business, there are a couple of different types of policies out there. In fact, there are many types of policies out there. If we were to keep it simple for this podcast, we break it down in between temporary insurance and permanent insurance. Can you talk a little bit about why someone would buy a temporary versus a permanent type of policy?
Ed: Sure. Temporary refers to term insurance coverage. A term insurance policy is designed to have a level premium for a certain period of time, whether it be 10, 15 years, 20, 25 or 30 years, and so on. So, it defines the exact period of time that you need the coverage, and it guarantees that premium on a level basis for that period. This type of coverage is the lowest cost from a cash-flow perspective, and it’s the most effective from a dollar perspective in terms of premiums paid today versus benefits today. On the permanent insurance side, that’s a different discussion. For people who have needs of life insurance in excess of 10 years, at least from a balance sheet perspective, this type of insurance can be a lower cost strategy, but it requires higher cash flow.
Brian: So Ed, just to recap that as it relates to term insurance, should something happen to somebody you take into account, maybe I want to pay the mortgage off, maybe I want to put the kids through school. I have five goals, whatever these goals might be. And I know that if I have a 20-year term policy or 30-year term policy, should I pass within that period of time, the insurance company is going to pay me the death benefit. But if I pass after that period of time, regardless of how long I pay these premiums, so if it’s a 30-year, and it’s the 31st year, I’m essentially out of luck. Right. I don’t have coverage for anything after the 30th year. Correct?
Ed: Yes. If you just stick with the term insurance, that is correct. However, there are opportunities for having term insurance that allow you to convert that term insurance to permanent insurance down the road. So, let’s say you’re in the 20th or 30th, year, the last year, typically we have the term policies that have level premiums that allow conversion to permanent plans. When we do that, sometimes with the premium increases just marginally, but that is an option you have, and you’d want to do that if you had a change in health or let’s say you had the best possible rate when you bought your policy 20 years ago and now you’re overweight, and you’ve got high cholesterol and maybe had a heart procedure done. That would be a great opportunity to convert that policy to permanent plan if that’s needed beyond that period of time.
Brian: That’s an excellent point. The ability to convert.
Brian: Just a quick note to our listeners, if you have a topic that you want to hear on this podcast, or you have a question about your own personal financial situation, please don’t hesitate. Go ahead and send us an email at email@example.com, and we’ll have an advisor reach out to you directly. Now, back to the episode.
Brian: But something else you hit on, is that, a lot of times, a lot of folks, are healthier when they’re younger and as they age, they see your point. They gain more weight, or they have developed a disease. So something to think about is for folks who are potentially just beginning to look at this process and understanding what their current needs are, I think that’s one step in the process. And so, for example, if I’m young, and I have maybe a couple of young kids that I need, say half a million dollars or $1 million worth of coverage, I may want to think about buying a larger policy today because longer term, due to health changes and so forth, I may not have the same rating. If I want to buy more insurance down the line, it’s going to cost me more. So perhaps that’s one of the strategies that somebody might want to consider—buying a little bit more insurance than they need in the hopes of that benefiting them down the road.
George: That’s a great point Brian. In fact, I was working with a client not that long ago. And when we set up the policies, we actually set them up with that consideration. Potentially, we could have health care changes, but, more importantly, they didn’t have children yet, but they were planning on having children very soon. And so they were looking two, three and four years down the road. If they didn’t get insurance and something happened in that two- to three-year-period, that could disqualify them or change their outcome of getting insurance. They wanted to take care of it now, so that they didn’t have to worry about it. Then they also increased that amount that they needed so that they’d have more options at that point in time. At their young age, the cost difference was very, very small.
Brian: Having conversations like this is absolutely critical, and I think some of the challenges that people have is that they are just looking for the cheapest option right now. Let me think about where I am today versus having that planning mindset and thinking it through, how do I provide myself with enough options down the road. One of the things that’s common that we talked about just a minute ago is one in three folks will buy life insurance online, and in my opinion, when they’re buying it online, they are looking for the cheapest rate. Hopefully the company has a good rating, and I want to know what the premium is, but they may not be having conversations like this. Someone analyzing their entire situation, and Ed, correct me if I’m wrong, but whether you buy insurance online or whether you buy it via an advisor, the cost is going to be incredibly close, because pricing is regulated by the state in which you live. Isn’t that accurate?
Ed: Yes, that’s 100 percent correct. Pricing is filed by the carriers with each state, and it’s typically the same across the board. Doesn’t matter what source you go to. So yes, having an advisor involved in helping you understand exactly what you need is critical. In addition to that, it’s very important that when you choose a source to get your insurance, that the source has the ability to access the complete marketplace and also the ability to pivot from one carrier to the next. For example, let’s say somebody’s on some anxiety medication, and carrier A came in on the price on the spreadsheet on the computer screen as being the cheapest, but this carrier doesn’t like this anxiety medication. Well, you want to be able to pivot very easily to whatever carrier is the next best choice for that or for whatever the situation is. Whether it’s cholesterol medication, it doesn’t matter what it is. We just want to stress the fact that you need to be able to pivot to the best choice for whatever you’re looking for.
Brian: That’s a great point, and we talk about why it’s important to work with the fiduciary in most of our episodes. Just for this point, because there are a lot of folks who sell insurance, and they act as an agent of that insurance company, meaning that they’re going to sell the products associated with that company, versus when you work with a fiduciary advisor, they’re looking out for the client’s best interest and will not just go to that one insurance company, but we’ll go across the spectrum to find what’s right for that individual. Now that we understand term insurance, can you explain how permanent insurance works and how it’s different than term insurance?
Ed: As it relates to permanent life insurance, particularly whole life insurance, there are guaranteed components, which includes a guaranteed cash value, and a guaranteed death benefit. So, no matter how long you live, no matter how much you pay, you’re always going to get your money back in the form of a death benefit or your cash value.
George: Which I think is really important when you’re considering the overall approach to insurance and life insurance. It’s really about what your needs are. I mean, that’s the bottom line. If you discover that it’s only for that 10-year period, I think as you described earlier, but we all know life happens, and when life happens, things change. You might discover five, six, seven years down the road that maybe you need to have insurance longer than you thought. Those conversion options you were talking about a little bit earlier, as well, might give you an opportunity to provide you with a conversion to a permanent policy, so then you have that for the rest of your life, and there’s a lot of reasons why you might want to consider a permanent policy. I think you just described having a definite—you always know that they’re going to be able to take care of those final expenses regardless of what happens to your finances. Maybe you want to take care of a beneficiary in a particular way, then you’ll always know that policy’s in place to take care of that beneficiary the way that you had designed it originally. And so just a couple of reasons why you might want something permanent.
Ed: Great points, George. And just to touch on that, permanent insurance, whole life, is just one of the options we have. Everything from the index, universal life, variable life and there’s many other types of permanent insurance that are beyond the scope of this discussion.
Brian: The other thing to consider, whether you’re interested in a term policy or more of a permanent policy, there isn’t anything to prevent you from mixing those strategies. So, for example, for some of the temporary commitments you might have, you might use term to provide funds for those expenses. And if you had the need for permanent insurance, perhaps you buy a smaller policy on the permanent side. Again, there’s a variety of different ways to do this. It really just depends on what your goals are, what you’re trying to accomplish and what you’re comfortable with.
George: Yeah, and along that line, Brian, you can convert parts of that policy in many cases. So, if you have a $2 million term policy and it’s a 15-year term policy, for example, 10 years from now, you decide, I do want something permanent. You could actually take half of that offer, $500,000 off it, whatever is most cost effective for you, and make that your permanent policy. You’d still retain the rest of your term policy, until the end of the term, and you could do that without the medical exam.
Ed: One word of caution on conversions. Term Insurance carriers continue to lower their rate rates and lower the cost of insurance. And one of the most recent areas in which they have taken away from the benefits of these term policies is the ability to convert. So, if conversion is important to you, make sure that you understand how the conversion works, whether it’s administrative or contractual, when the timelines are, and so forth. It’s very important.
George: You know, it’s a really great point and, as a follow-up to that point, that’s why, when you purchase a term policy, an advisor will be looking out for what’s in your best interest and can help you with those kinds of decisions. When you make the purchase on the front-end, as well as when you want to make the conversion, you won’t necessarily have that. If you are buying that online, you’re not typically going to have that type of service available. And that’s looking out for what’s best for you.
Ed: Correct. Again, there’s a lot of nuances as it relates to the conversion part of it, and it’s a very valuable part of term policies.
Brian: Can you talk a little bit about the process once you meet with that advisor or go online, the process of getting the insurance?
Ed: Sure. So, once we determine an amount that we’re comfortable with, the next step is to understand the ratings, so we can get an accurate pricing for that risk. So typically the process, depending on the level of coverage on a traditional basis, is we have to do a paramedical exam and get medical records and have the underwriters review the file. In recent times, we also have the ability to do what’s called accelerated underwriting. What I mean by that is, accelerated underwriting is when our need for insurance is at a point that qualifies for a certain carrier, then we don’t even have to do that in a medical exam. All we do is a phone interview, maybe answer some questions online. They do a prescription check. They do some predictive analytics on you, do some research, and they’re able to make a decision on your pricing for life insurance within 48 hours. It’s a recent development, and that’s the trend in the future.
Brian: So I’m glad that they’re solving that need, because we go back to the LIMRA stats where they talked a little bit about, 50 percent of people would buy more insurance if they didn’t have to go through that medical exam. That’s really interesting.
George: So what you’re saying is, they’re not going to make you stand on a scale, take my blood pressure, take my blood, ask me all the questions. We can do that over the phone.
Ed: Yes. If, during the process, we find out that you’re on a particular medication, it can fall back into the traditional underwriting process, but for people who are young and healthy, it’s a great way to go through the process.
Brian: I want to make sure that I hit this, because I said something earlier about insurance being federally income tax free. And I think you said something similar. One of the things I want to make sure of is that everyone understands that the insurance proceeds pass by contract of law and not through the will, which is terrific because it will escape the probate process and go right to the intended beneficiaries. And the key aspect of that is to make sure that you have the appropriate beneficiaries indicated in the contract. So you have a primary beneficiary, as well as contingent beneficiaries, and those could be your loved ones or a trust, depending on your situation.
Ed: Yeah. Well, one of the biggest issues I see with beneficiaries is the fact that a lot of people go through divorce or a family change, and often forget to update their beneficiary. It’s just like everything else, just like your IRA is, anything else that passes by contract, so does life insurance, so we need to make sure we keep those beneficiaries up to date.
Brian: That’s a great point. There are horrible stories about divorce and who continues to get those proceeds, right?
George: Yes and important to note on that too is, don’t put one beneficiary on there with an expectation that that beneficiary will then share with other people within the family or they might be well intended, but once the dollars go to that individual, it’s his or her dollars. If you’d like to be specific about who that’s going to go, then you need to set up other arrangements.
Brian: All this information is great. Before we wrap up the show, we ask guests what their worst financial decision was. Do you have something you can share with us?
Ed: Are either of you familiar with the term duster? Okay. Probably 15 years ago, I did a lot of work in the Wichita, Kansas area, and if you know anything about that area it’s, it’s known for oil and gas exploration, and so forth. And being around those guys I often asked, “Hey, next time you guys have a deal come up, let me know. I want in on this deal.” And sure enough, I think I got it on what they call, an eighth or a 16th, on two deals for drilling for natural gas out in Meade County, Kansas. And the term duster is what happens when you drill down and you get dust.
Ed: So at least there was a tax deduction.
Brian: Okay. There you go. So there’s the silver lining. So guys, I want to thank you for coming on the show. I really appreciate it. I know that we’re just scratching the surface as it relates to insurance, and I’m sure we’ll do more podcasts like this in the future. I also know it is not the most exciting topic, but again, it is a critical part of one’s overall financial plan, and something that we need to address and continue to address because the reality is, life changes. Some of these plans and policies may change, so it’s critical not only to have the right insurance in place, but to make sure that you’re reviewing it every so often, whether that be a life event or every few years to make sure that it is current. So thanks again for listening, and as always, if you have questions about your overall situation or you have topics that you’d like us to hit, please go ahead and email us at firstname.lastname@example.org.
Brian: We know that your time is incredibly valuable, and we hope you find this podcast a worthwhile investment of your time. Thank you for listening.
The views expressed are for commentary purposes only and do not take into account any individual personal, financial, or tax considerations. It is not intended to be personal legal or investment advice or a solicitation to buy or sell any security or engage in a particular investment strategy.
The views expressed are for commentary purposes only and do not take into account any individual personal, financial, legal or tax considerations. As such, the information contained herein is not intended to be personal legal, investment or tax advice. Nothing herein should be relied upon as such, and there is no guarantee that any claims made will come to pass. The opinions are based on information and sources of information deemed to be reliable, but Mariner Wealth Advisors does not warrant the accuracy of the information that this opinion and forecast is based upon.
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