The Life Insurance Puzzle

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We read an article last month in Investment News that suggests that life insurance should not be used as a savings vehicle. As you might imagine, there was some uproar among the life insurance industry readers that heartily disagreed with the premise of the “Guestblog” by Blair Duquesnay.   Ms. Duquesnay believes that there are certainly appropriate purposes for life insurance, but saving for retirement is not one of them. She stated in a follow-up that “life insurance is an instrument of protection, not accumulation.” We wanted to look a little closer into this to understand both sides of the argument.

First, let’s start with some of the universally acceptable reasons for having a life insurance policy. As Ms. Duquesnay says, life insurance should be purchased, in general, “because there will be a financial impact” on a business or family if someone dies. Certainly, protecting our loved ones or business partners is prudent and responsible. If something happens to you, you might want to provide a benefit for regular or special spending needs, potential increased child care costs, a mortgage payoff or other debt relief. Similarly, a death benefit might help cover college costs or provide a lifetime of comfortable support to our dependents. Some policies can be used for estate planning, long-term care or asset protection. It is also true that, in general, the need for a life insurance death benefit may decline over time, as your life circumstances change.

Let’s talk about the different types of life insurance:

1.Term Life, or annually renewable life insurance, offers an affordable premium to buy a particular level of insurance for a specific period of time. Maybe you use it, maybe you won’t and maybe you keep it going, maybe you don’t, but, either way, at the end of the term, the policy expires and, generally, there is no longer a need to have it. There is no additional value to the policy beyond the safety net of the death benefit.

2.Whole Life is the most common form of permanent life insurance, which means the benefit coverages will be around for your lifetime, as long as you pay the premiums. There are two parts to it – an investment portion (cash value) and an insurance portion (face value or death benefit). Premiums are fixed and are considerably higher than term policies, with high mortality charges for keeping the guaranteed death benefit. These products are designed to stay in force for your lifetime and come with steep surrender charges if you terminate the policy early. There are also substantial up-front commissions and fees for investing part of your premiums in a tax-deferred account. You can access your cash value by taking a loan out with the insurance company against the account value in the policy and they will charge you interest. If you stop paying the premiums, you may be able to switch to a paid-up policy that will be worth the existing cash value, but in general, these products are expensive to keep in place.

3. Universal Life is designed to also be a permanent insurance policy, but is considered adjustable because the policy offers the flexibility of changing premium amounts and having a fixed or increasing death benefit. If you need to stop paying or reduce premiums, your accumulated cash value can be used to keep the policy from lapsing. Once the policy value goes to zero, the policy and death benefit lapse forever. There can be steep surrender charges if terminating or withdrawing from your account, which will reduce any accumulated cash value. Like Whole life policies, your premium pays a portion to a high-interest cash value account and a portion for a death benefit. The growth is dependent on the performance in the accounts, on investment earnings (or losses) and on the amount of your premium contributions. The flexibility can be beneficial, but the policy value can deteriorate and lapse and the fees and costs are much higher than a term policy.

4. Variable Life – these are policies built like Universal life contracts (there are also hybrid Variable Universal Life policies, just to make it more confusing), but the investments are kept in managed mutual fund sub accounts with investments selected from a menu. This gives the policy holder more investment choice (and risk) for the cash value account in the policy. However, like Universal life, the same risk applies – the accumulation is dependent on the amount paid with your premium and the performance of the investments in the cash value account. The flexibility might be attractive, but it also increases the risk to the policy. Again, once the policy value goes to zero, the policy and death benefit lapse forever.

There are more insurance products and deeper complexities to the above definitions, but this is a basic outline of some of the life insurance choices. As you can see, the “permanent” life insurance policies and their saving (or investment) option can be costly and will allow for less flexibility in the growth of your investment savings than using standard investment accounts not tied to insurance. We generally find that the expensive fees, commissions and surrender charges keep us from recommending these products as a saving vehicle. “Buy term and invest the rest” is the motto of most fee-only advisors. The insurance industry is always working to improve these products and find the sweet spot for combining protection with accumulation. We certainly agree that there may be appropriate circumstances for using the more complex insurance products. At DWM, we don’t sell any of these insurance products, but we are happy to review your current policies or insurance needs to help you find the sweet spot for you and your family!

Save the Fan: Reviewing Property and Casualty Insurance

ceiling_fan_cleaningThere is a salty saying by an author perhaps intentionally unknown which is, “A little risk management saves a lot of fan cleaning.”  Our lives today demand that we all have varying amounts and styles of insurance.  We all know we need it, we just don’t necessarily know how much or what kind.  And if a catastrophe or accident occurs, the last thing we want to discover is that we are not covered as well as we thought, or worse, that we aren’t covered at all.  Properly insuring yourself, your family and your personal assets from a variety of risks is a necessary consideration nowadays and it can be confusing to decipher the particulars.  At DWM, we believe regularly evaluating your risk management is a fundamental element in your total financial picture.  As our clients know, we include a regular review as part of our on-going total wealth management process.

It is always important to do a routine annual assessment. Certain life events may trigger a need for policy updates.  My daughter recently got her driver’s license, now my third household driver under 20, so I am particularly aware of how a new driver or change of automobile status can trigger a painful review of auto insurance costs!  With homeowner’s insurance, everyone understands that when you move you will need to investigate property insurance.  It is also a good idea to watch for the renewal notices and review each policy before it is due to renew.  It can be easy to forget about property insurance when it is buried in an escrow payment, so you can check with your mortgage lender or insurance agent to keep track of the renewal date.  There are other events that should make you think about your insurance as well.   Perhaps you added some significant jewelry or art that may need to be covered.  Maybe you did some renovations or improvements to your home recently, like an added security feature, a new roof or upgraded windows.  Other triggers might be changes in lifestyle – marriage, birth, divorce or death can all affect your insurance requirements.  Even sending kids off to college or landing a new job with added responsibility can increase your need for coverage.  All of these changes can impact your property and casualty insurance policies and should be evaluated by an insurance professional.

Besides changes in your lifestyle, it is worth reviewing your policy to look for coverage problems.  Some coastal homeowners’ policies may have very high deductibles for wind & hail insurance.  This includes hurricane damage, but also can include a thunderstorm knocking a tree onto your house.  You might prefer to have a high deductible on the “named storm” coverage and keep the regular wind events covered in the lower amount of your “all other perils” deductible.  Most homeowner insurance coverage uses a standard cost for satisfying replacement or repair claims.  You may want to look for policies with extended replacement cost coverage for custom home features or for inflated costs of goods and services during a large impact event.  Lastly, it is a good idea to be sure you aren’t over-insured.

We also think it is important to watch for changes in the marketplace and keep up with new products or services that might be available to our clients.  We have recently learned more about a company called PURE (Privilege Underwriters Reciprocal Exchange), a mutual company owned by its ‘members’ or policyholders rather than public shareholders.  Their niche model specializes in offering exceptional coverage and savings to “responsible” owners of the “finest built homes” and allows PURE to offer competitive rates for property & casualty insurance, often with premiums at 20% less than their competition.  The idea is to provide competitive coverage to successful families who are motivated to take care of their properties and who value the premium customer service offered to the PURE members.  The PURE founders came from the high net-worth programs at AIG and Chubb and have been inspired, in part, by the successful member exchange concept at USAA.  PURE believes in a client-centric service model with financial transparency and customized and detailed risk management assessment.  PURE writes insurance around the country for high-value properties worth $1 Million or more.  We don’t endorse particular companies, but we think PURE does a good job of acting as a fiduciary for the insurance coverage of their clients.  If you fit their profile, it is worth getting a quote from an agent.

Sorting through all of the coverage levels, intricate policy choices and evaluating your personal insurance requirements can be daunting and time-consuming.  At DWM, we are happy to sort through the details on all of your insurance, including property & casualty, health, life, disability or long term care.  We work with trusted insurance professionals to ensure you have the most appropriate coverage at the best possible price.   We think it is important for all of us to work together to make sure your risk is well-managed.  We hate to see our clients have any fans to clean!

Rent or Buy?

Rent or Buy?Last week the Wall Street Journal ran an article where readers weighed in on the question: Is Now the Time to Buy Your First House? Actually, the question of renting or buying a house is a good question for all ages to consider.

Historically, for most people, the answer has been pretty simple. “Don’t waste money on renting- buy a house as soon as you can scrape together the down payment.” A house was more than a home. It was typically one’s largest investment and the leveraged appreciation over time was fantastic. 

Everything has changed in the last five to six years. The decision today is not so easy. 

Here are some of the reasons to buy a house:

  • Own your permanent dream home for years to come
  • Get a tax break for the interest and real estate taxes paid
  • Build equity with your principal payments
  • Hopefully obtain long-term appreciation

 Here are some of the reasons to rent:

  • Payments are fixed with the monthly cost often lower than buying
  • No repairs, grass cutting or painting to do and/or pay for
  • Opportunity to invest funds elsewhere; spreading your investment risk
  • More flexibility to move quickly for business or personal reasons
  • No closing costs during buying or selling

There are free, online rent-or-buy calculators available. One is www.nytimes.com/interactive/business/buy-rent-calculator.html. However, please be aware that there are major estimates that are required, including annual maintenance and appreciation. Even so, the site can help people focus on some key factors. As a generalization, I think it is fair to say in today’s market that renting may be better than buying for those people who might need or want to move within 3-5 years. Those who plan to stay in one spot for a longer time will likely do better to buy.

Of course, housing decisions are one of the major pieces of a complete financial plan. Every situation is different. What makes it even tougher is that the decision to buy or rent a house is typically three decisions all rolled into one; a lifestyle decision, an investment decision, and a risk management decision. Fun stuff. We love working through these decisions with our clients, of all ages.