Do you need life insurance in retirement?
It may sound like an easy question to tackle but it may be more complicated than you think. The biggest problem with life insurance is that it involves emotion which is not always the best way to make important decisions. It’s not easy to look into the future and envision a life that has not been lived. For most there is no context for the circumstances that may arise when you die. In other words, how do you know what life will look like when you die if you have never (and will never) live that life?
When you think of life insurance, you probably think of something you need when you are younger — when you have dependents and more debts. Many experts have argued that you should only buy life insurance when you need it and as a result, they suggest that you should only buy term insurance while you are young because you will not need it later in life. Although there is some truth to this general rule of thumb, it’s a little too simplistic.
Insurance in retirement
Just like cereal and milk or strawberries and whipped cream, life insurance and estate planning go really well together. As we said, the most obvious reason why people buy life insurance is to protect their dependents. However, there are other situations where life insurance in retirement might make sense.
1. To pay off debts. It used to be that retirement happened only if you paid off all your debts. However, we live in times where debt is abundant and in many cases, Canadians are retiring with more debt than in the past. This debt comes in many different forms like lines of credit, credit cards and even mortgages. If you are carrying debt in retirement, then life insurance can be used to pay off those debts when you die instead of having to liquidate assets (sometimes at times when you do not want to sell). Alternatively if you have enough liquid savings or assets to pay off debts to the estate, then life insurance may not be necessary.
2. To cover taxes at death. When you die, there may be a substantial tax bill to the estate as a result of income from RRSPs, capital gains from investment portfolios, real estate and other sources of income. Life insurance can be used to ensure there is money in the estate to pay for this tax liability. Keep in mind that the government will still get paid their share of tax. You can’t avoid that. Life insurance just means your beneficiaries will get more because the tax bill is paid with life insurance proceeds.
3. To cover final expenses like funeral expenses and legal fees. Every estate has expenses but where will the money come from to pay for these expenses? It is crucial to ensure there is enough liquid cash to pay for fees and expenses. For some, life insurance can be a great way to inject liquid cash into the estate.
4. To provide income for your dependents. Generally, the plan in retirement should be to not have dependents but these days kids are staying home longer. Or if they do leave, sometimes they are coming back home later in life and occasionally they could be bringing children with them. The more common dependent in retirement may be your spouse (not the kids). Will your spouse need your income when you pass away? If they need some or all of your income to make ends meet, then you are a likely candidate for life insurance in retirement unless you have significant savings or assets to leave behind. Before you jump the gun on this questions remember the best way to think about this is to simply think of yourself as the survivor.
5. To leave a larger estate for your beneficiaries. The standard joke in retirement planning is the notion that the ideal strategy is to spend your money so you can die broke. The flaw with this strategy, of course, is you never know when you are going to die. Most people never die broke because running out of money is the biggest fear we face in life. In fact, leaving money to your spouse, kids, grandkids or others is not a bad thing. Leaving money represents relationships and creates legacies. Life insurance is a great way to pass money on to the people you love as it passes tax free.
6. To equalize your estate. Life insurance can create a pool of cash to allow your executor to make things equal for your beneficiaries when some things can’t be divided. One common example is where real estate is involved. For example, you might have a family cottage that is really only being used by one of three children. If the cottage is willed to the three kids, there is a good chance the one child that uses the cottage will have to buy out the other two siblings but where will the cash come from? Life insurance is a great way to equalize the estate by giving the cottage to the child that wants it and giving cash through a life insurance policy to the other two children.
7. To help corporations and business arrangements remain viable. There are many uses for life insurance and estate planning when a business is involved. Every situation is unique and should involve a team of professionals.
8. Provide for charities. Most often when we donate money to charities, we do it in the form of a direct contribution. Typically, someone knocks on your door or solicits you through the phone. Sometimes, we give a little by leaving our change at the cash register or even by attending a fundraiser of some sort. Charitable gifting with life insurance is much different. The most attractive advantage using life insurance is that it allows one to make a much larger gift to a charity. In addition to the goodwill, giving to a charity through your estate can save a lot of money in taxes.
Obviously, this list is not exhaustive but it does represent some of the key uses of life insurance in the estate planning process. Life insurance is one of the few assets that transfers to beneficiaries completely tax free. As a result, life insurance can be a great tool in the estate planning process.
You’ve worked all your life, paid your bills and saved up enough to finally take the break you’re been waiting for – welcome to retirement.
As part of the process, you may be considering what you can or should do with your life insurance. Let’s address the various life insurance options and needs going forward.
Group life insurance through work
In many cases your group life insurance policy can be converted over to an individual life insurance policy without a medical exam. This option will only be available for 30 days after you drop out of the group insurance plan, so it’s important to investigate this option as soon as you can. Your HR department should be able to provide quotes and options for this conversion process.
Other’s may be fortunate enough to have retiree benefits that include life insurance. Generally that coverage is not forever, but ceases around age 70. Because all plans like this are custom, you’ll again need to contact your HR department to find out specific ages, as well as when you lose the option to convert the coverage to an individual policy.
Individual term life insurance
If you have a term policy, you may decide you don’t need it anymore, or don’t want to go through the hassles of applying for a permanent life insurance policy. Similiar to the group insurance where you can convert to an individual policy, most individual term life insurance policies will allow you to convert to a permanent life insurance policy without a medical exam. Retirees commonly will convert their term policy to a permanent lifetime policy then reduce the face amount. Doing so is an easy way to move from say a $500,000 term policy down to $50,000 or $100,000 of permanent life insurance without a medical exam while still receiving the rates of someone who took a medical exam.
Individual permanent life insurance
-Term to 100
If you have an old term to 100 policy, approach the cancellation of this policy with caution. The premiums on old term to 100 life insurance policies are no longer what they were in years past, so that old policy may be the cheapest insurance coverage you’ll ever have again. If the premiums are too high, you may be able to reduce the amount of coverage to reduce the premiums.
- Universal Life
If you have an old Universal Life insurance policy with investments, there are a number of considerations. First, you’ll need to find out what the internal insurance cost structure is (the internal cost structure is different than the premiums). This is referred to as the “Cost of Insurance” or COI. If you have YRT or annually increasing, you may consider converting to level COI. Doing so locks in your insurance costs level for life. You’ll need to speak to your broker or insurance company to get current premiums costs for switching from annually increasing to level insurance costs.
Secondly, if you’re considering cancelling the policy, be careful. If you cancel the policy and withdraw the investments you will be subject to taxation. And as a retiree, you’re going to be ever more worried about your overall tax bill. There are alternate options such as using any investments as collateral on a non-taxable loan (basically, the bank takes the policy as collateral and loans you money. The loan money isn’t taxable). Alternatively you could reduce the amount of insurance down to the minimum allowed by the policy. This reduces your insurance costs but keeps your investments sheltered and untaxed. Be careful, these types of strategies are high risk and you’ll need to consult an accountant and a knowledgeable insurance broker before doing anything – there’s little room to change back if you make a mistake with this.
- Whole Life
And finally, if you have an old whole life policy that you’re considering cancelling, the considerations are similar to the other types of permanent life insurance. Instead of cancelling, you may be able to reduce the amount of coverage to reduce premiums. If you do cancel the policy, again be aware that there are likely tax implications. And one last option with a whole life policy are what are known as Reduce Paid Up Values. This option allows you to stop paying premiums but not cancel the policy. Instead you receive a smaller amount of coverage for the rest of your life with no further premiums owing. This option allows you to keep some amount of coverage, without the burden of paying any further premiums.
Due to the complex nature of the various policies and the uniqueness of your preferences, it will help to get all of your insurance paperwork together for a full review. You should contact your insurance company and ask for a ‘current inforce illustration’. This document will give you your current values of your policy along with projections going forward, based on current information. The inforce illustration along with your existing insurance paperwork will then allow you to meet with your insurance broker and do a thorough review of your existing coverage and devise a strategy going forward.
Glenn Cooke is a life insurance broker and president of Life Insurance Canada.com
When you purchase your life insurance there are a variety of options available to you. These life insurance options are known as ‘riders’ and serve a wide variety of purposes. Like buying a new car, adding these bells and whistles can add substantially to your costs without necessarily giving you a better ride. Let’s review the various riders, and decide if they’re worth the extra money or not.
Accidental Death rider (AD)
This rider allows you to purchase an additional amount of coverage that will pay out subject to accidental death. By contrast, it will not provide additional benefits should you die due to medical reasons. Accidental death provides coverage at a very low cost. But here’s the question we need to answer – do you need more coverage if you die as the result of an accident instead of due to medical reasons? I can’t imagine a case where how we die impacts how much coverage we should purchase. If you need more life insurance, purchase it as a regular policy. If you don’t need more coverage, then save your money. In either case, accidental death rider is an option you should pass on.
Disability waiver of premium (WP)
This is an interesting and unique rider. If you purchase this rider and become disabled for longer than 6 months, the rider will kick in and pay your life insurance premiums for the balance of your disability. Certainly covering your bills upon disability is a great idea – as Forrest Gump said, that’s one less thing to worry about. But let’s pause for a second and consider what happens if you become disabled. Your insurance premiums are now paid, but who’s paying the mortgage? And the groceries? And your heating bills? The answer is nobody, unless you have proper disability protection. A proper disability plan should cover a substantial portion of your full income and not just your life insurance premiums. Effectively you want a new paycheque should you become disabled. That replacement paycheque should be enough to cover all your bills, including your life insurance premiums. In other words, if you have proper disability protection then you don’t need a disability waiver of premium rider on your life insurance policy. So make sure you have proper disability coverage (that’s extremely important!) and then take a pass on this rider.
Children’s Protection rider (CPR)
This rider covers all of your children until they are adults. Typically the premiums are small, in the range of $5/month for $10,000 of coverage. As the coverage lasts until they are adults and then is assumed to lapse, this is basically term insurance for your children. While deciding if you should cover young children with life insurance is beyond the scope of this article, if you do decide to purchase insurance on your children until they’re adults, this is an extremely low cost way of accomplishing that goal. In short, if you want insurance on your children while they’re at home,consider a Children’s Protection rider.
Guaranteed Insurability Option (GIO)
This rider guarantees that you have the option of purchasing additional insurance in the future, without a medical exam. Should you take advantage of the option, you will have to pay the additional insurance premiums – the cost of the rider doesn’t cover future insurance costs, only the option to purchase more insurance. This is an option rarely used by individuals and is much more commonly used by businesses that are growing. It provides the ability for a business to manage risk by guaranteeing future insurance purchases. You can generally ignore this option if you are purchasing life insurance for personal reasons. Consider the option if you are purchasing life insurance for business reasons, to guarantee that you can purchase insurance in future years, but compare it to the cost of just purchasing the full amount of the additional insurance today.
Second insured rider
If you have a base policy, it can be noticeably less expensive ($60-$70/year) to add a second person to your life insurance policy. This is because life insurance premiums consist of a monthly administration fee and an insurance cost. When adding a second person as a rider, the monthly administration fee is either discounted or waived, leaving just the basic insurance costs. This is a particularly effective way to add insurance for younger female nonsmokers, as their actual underlying cost of insurance is negligible.
Rather than taking out additional coverage as a separate policy, a term life insurance rider allows you to top up your coverage for a period of time. Just like a second insured rider, adding additional term rider coverage on your life can save you the monthly administration fee when compared to a seperate policy thus providing some savings. Consider doing this if you need additional term coverage for a period of time.
Which life insurance options make sense for you?
That covers most of the common rider options available on Canadian life insurance policies today. When purchasing a life insurance policy I recommend ensuring you have proper basic coverage first and foremost, and then examine the additional riders and options individually and separately.
Glenn Cooke is a life insurance broker and president of LifeInsuranceCanada.com Inc.
Most Canadians don’t protect themselves against the loss of their earning power. This year one in eight working Canadians will become disabled for more than three months, and half of these individuals will be disabled for more than three years.
When people are asked “what is your most valuable asset?” the usual responses are their homes, cars or investment portfolios. Usually, most people don’t think of what allows them to buy and maintain these material things and pay for food, utilities, the mortgage and other living expenses.
The answer is simple; it is our ability to earn an income. Our personal income allows us to repay debts, accumulate wealth and develop a lifestyle for our families and ourselves. Unless we are independently wealthy and we do not need to work, disability insurance is an essential part of risk management while implementing a comprehensive financial plan for ourselves.
Consider a 35-year-old lawyer earning $120,000 today, who plans to work to age 65. Using the historical average rate of inflation of four per cent for the 20th century, this lawyer will earn $5.7 million over the next 30 years.
A disability insurance policy is a contract between the insured (you) and an insurance company. The monthly income benefits that you buy will only be paid to you based upon the definitions and wording in your contract.
The most important definition in the disability contract is the definition of “disability.” This definition is the heart of your plan. If, as a reasonable person, you cannot easily understand the definition of disability and how/when your disability income will be paid out, then you should not purchase that plan or deal with your current insurance agent. If the definition appears unclear, be aware that an insurance company at the time of claim has the power to define what constitutes a disability through its own interpretation.
“Own occupation” is the most clearly defined coverage and the most expensive to buy. It is usually sold as a rider to the regular coverage of a disability policy. Owning a policy with the ownoccupation definition pays you an income when you are disabled and not able to perform the duties of your chosen occupation. You would be eligible to collect full disability benefits, for example, when you are no longer able to work as a lawyer, even if you decided to work in another occupation, such as a cashier at a fast food restaurant, earning less, the same or more money than you did when you were a practising lawyer.
Regular occupation is the most common coverage found in privately purchased disability policies today in Canada. You will be paid a benefit when you can no longer work in your chosen profession because of disability or sickness and do not have employment at all. If you choose to work in another profession, the definition of your occupation then changes to that of your new work situation. So if you were a lawyer and can no longer do this type of work but choose to be employed as a cashier at a fast food restaurant, the definition of your regular occupation changes to that of cashier and the insurance policy will no longer pay you a disability income.
This definition is found in most group and employer-sponsored disability policies and is the most misunderstood. This definition gives the insurance company the most leeway to interpret what constitutes a disability and to determine what the insured can or cannot do to earn a living. With the any occupation definition you will only receive a disability income from an insurance company provided you could not work at all in a job that you are “reasonably suited to do by your education, training or experience.”
So if you were a lawyer and can no longer perform this type of work, the insurance company will have the power to make the determination if you are qualified to be a cashier at a fast food restaurant.
Even if you choose not to be a cashier, just because it determines that you are qualified to do so, the insurance company can legally deny you your disability income.
Many people have a difficult time deciding how long a benefit period they should buy. The average length of disability is about three years and your options for a disability policy benefit period range from two years to five years, or to age 65.
If you are a young professional and do not have considerable financial assets, a benefit period to age 65 is highly recommended.
Consumer Price Indexing
It is very important to consider purchasing a Consumer Price Indexing rider/coverage when buying a disability policy. An inflation rate of four per cent per year means that $1 today will have the buying power of $0.50 within 18 years. A cost-ofliving adjustment rider is designed to help you keep pace with inflation after your disability has lasted for more than a year.
This optional rider is designed to protect your future income. This rider is a must for young professionals. It offers the ability to increase your disability coverage, regardless of your health, as your income rises. With the earlier example of our 35-yearold lawyer earning $120,000 today, if his income only increased with inflation, he would have an annual income of $177,000 ten years from now.
By purchasing this option with his original disability policy this lawyer would be able to buy additional coverage without any additional medical underwriting requirements. In essence, if he was diagnosed with a heart condition, as long as he had future insurability on his policy he could buy more coverage and have no fear of being declined by the insurance company.
So you’ve got disability insurance at work right? If you become disabled, you’re going to get a new paycheque while you’re disabled…right?
It may not be quite that simple. Here’s some points you should consider about your existing or prospective disability insurance policies:
· What’s your monthly benefit? You could have 2/3′s of income. Or 50% of income. Or any number – it varies by policy. Insurance companies typically want a maximum coverage of 2/3′s of your gross employment income. But remember that’s 2/3′s of your gross income, not your take home. And since disability benefits are normally not taxable income, you would be taking home 2/3′s of your gross – pretty much the same as your pre-disability take home income.
· Waiting period or elimination. This is the time period you have to wait to get benefits, after you’ve become disabled. A 90 day elimination period means benefits won’t start paying in until you’ve been disabled 90 days. Longer elimination periods mean you’ve got no income for a longer period. Shorter elimination periods are available,but get very expensive fast.
· Duration of benefits. This is something many people miss completely. If you become disabled, how long are you going to receive benefits? Don’t say ‘forever’, because you’ll be wrong. And don’t say ‘until I retire’ because you are quite likely wrong as well. Typical options for duration of benefits are 2 years, 5 years, or to age 65. But 2 or 5 years are often chosen to reduce costs. Group policies (work policies) frequently will have a 2 year benefit period. If you become disabled, you’ll get paid for 2 years – then it’s over.
· Cost of living option. This is a rider available on some policies. It increases your disability payments with roughly the inflation rate. If you’re disabled for a couple of years, this doesn’t matter. If you are disabled for an extended period of time then this rider becomes extremely important in maintaining the value of your benefits.
· Own occupation. Generally after two years of disability the insurance company will tell you to get back to work doing whatever you can – even if it’s not what you were doing before you became disabled. While I’d suggest that from an insurance perspective that if you can work doing anything then you should – but most consumers disagree. Most folks want to know that if they can’t do what they were doing before they became disabled, then they’re still disabled. The solution to this is to get the ‘own occupation rider’ that removes the 2 year restriction on being disabled from your own occupation.
· Partial and residual disability. OK, this is where things can get messy, and policies can vary widely. What if you’re disabled for a few months. Then back to work for a month. Then off for three months. The second three months – is that a new claim subject to a new 90 day waiting period? What if you can work, but only 50% of the time? Do you get paid 50% and get 50% of your benefits? You need to look at your own policy or your work policy to find out what you have. Personally I prefer the Cadillac of plans for these options as I’d like to think that if I can work even a bit, or even off and on, that I want the opportunity to do so without screwing up what benefits I do have.
· What disability insurance isn’t. Disability insurance should properly be called ‘long term disability insurance’. It’s intended to cover you if you become disabled over an extended period of time. Short term disability insurance is common with some employers, but is more of a benefit than insurance (60-90 days without income is a severe hardship, but shouldn’t be a life altering problem. And if it is, you can self insure by building your savings.). And it’s not long term care insurance which is something else entirely. Folks frequently mix up these three things.
Here’s your budget challenge. I challenge you to find out what level of benefits your current disability policy offers and then live on that for the next 60 days. Worst case you’ll have saved some money. But you’ll also find out if your current coverage is actually livable should you become disabled. Have to dip into your savings to stay afloat? That certainly won’t last if you’re permanently disabled.
Other things to note
· In order to save costs, many work policies have a 2 year duration of benefits. If you become disabled, you’ll get paid for 2 years, then you’re on your own. The solution to this is to purchase an individual disability insurance policy with a 2 year waiting period and benefits to age 65 (i.e., no benefits for the first two years of disability, then coverage to age 65. During the initial two years your work coverage would be paying benefits).
· Because options vary so widely, it’s difficult to compare based just on premium. However if you are looking to lower costs, take note of the 6 points above and put them in order of importance. Do you care about own occupation over only having benefits to age 65 instead of 5 years? Can you live with a longer elimination period in order to get a longer benefit period? Are you prepared to reduce your benefits? My personal preferences are monthly benefit, duration of benefits to age 65, and cost of living over all the other things. I set those three first because I buy disability insurance for the worst case scenario – I’m disabled forever.
· Both the application and claims process for disability insurance are disliked by consumers. Applications take a bit of work. And when it comes claim time companies are going to expect solid and ongoing proof that you are completely disabled. Frankly, when it comes time for a disability claim, nobody’s happy – consumers, insurance companies, nor agents. And for every story a consumer has about a friend who got screwed over, the insurance companies have a story of consumers building additions on their house while supposedly being completely bedridden. I don’t have an easy answer for this, other than to make sure you actually read your policy or information from work and make sure you know what you’ve got.
· Individual disability insurance (i.e. Policies you own, rather than work policies) are typically perceived as being expensive. Work policies are frequently perceived as less expensive because in many cases the employer’s paying part of the premium or has tailored the policy to limit benefits (all most people care about is whether they ‘have’ a policy at work. Few ever ask if the benefits and coverage are worthwhile). While the high premiums may seem like a gouge, you may want to consider the reason why premiums are high. It’s not because of the high-flying lifestyles of insurance execs – the disability insurance marketplace is competitive enough to keep a lid on premiums. Premiums are high because insurance companies get a lot of expensive claims. And what that means to consumers is – there’s a pretty high probability of a disability claim before age 65 for many of us. For most of us, we’re the ‘teenaged drivers’ of the disability insurance world. I know that’s slim comfort – but like claim time, there’s little easy solution to high premiums resulting from high claims.
· If the high premiums of an individual policy more than you’re prepared to pay and you’re prepared to give on benefits for some level of coverage, accidental only disability insurance policies are available. These policies are noticeably less expensive, provide coverage from the first day of an accident (no waiting period), require no medical exam and are very straightforward. In exchange for fast, easy and cheap you give up things such as disability coverage for illness and cost of living increases.
Discussing disability insurance is even less fun than discussing life insurance. But it’s important. For most of us our income is our single greatest financial asset, and disability insurance protects the loss of that asset.
If you’ve got a disability insurance policy at work, today might be a good day to print out this article, go grab your benefits brochure, and compare the above points with what you have. There’s no time like the present to make sure you’ve got the coverage that you think you have. And if you’ve got an individual policy, you might consider doing the same point by point comparison.
Glenn Cooke is a life insurance broker in Canada and president of InsureCan Inc.
The irony of life insurance is that the benefit is realized at the death of the policy holder. It is really “death insurance” but that would be a hard idea to sell. Today, the world of insurance has expanded to also provide benefits while the policy holders are alive – a living benefit. Living benefit plans are insurance policies that provide financial benefits to survivors who face issues due to aging, illness, accidents and dependency.
There are 5 common types of living benefit insurance policies:
Disability insurance (sometimes called DI) is an insurance policy that pays out a stream of monthly income in case you get disabled and cannot work. The injury or disability does not have to have happened at work but it must severe enough to prevent you from working and earning an income. Many people have both short term disability and long term disability coverage through work but you can buy personal disability policies if there is not coverage like in the case of some self-employed individuals.
Health and Dental coverage
Like disability insurance, health and dental plans are often covered through workplace benefits. These plans are designed to help with the unexpected cost of healthcare needs when you need it. There is a growing concern that governments will have significant cut backs in the health care industry and as a result, the financial burden of prescription drugs, visits to the dentist, eye exams, and paramedical services may increase in the future. Individual Health and Dental insurance policies can be purchased through insurance companies as well as provincial Blue Cross organizations.
Travel insurance is something you can buy when you travel outside of Canada in case you get sick or have an accident while you are away. Travel insurance can cover the cost of your medical emergencies. Travel insurance may or may not include trip cancellation coverage. Most travel agencies will offer travel insurance coverage. However, you can also choose to purchase from a third party. If you’re planning your trip online or on your own, you’ll have to research which insurance companies are best for your needs.
Critical Illness insurance
Critical illness insurance is a type of insurance that helps you if you become critically ill. There are many different conditions that might be covered under a critical illness policy but the most common are heart attacks, strokes, and cancer.
Typically, critical illness insurance provides a lump sum payment when a specific condition is diagnosed. The money can then be used for any purpose. Some examples include finding alternative medical treatments anywhere in the world, hiring a caregiver, paying debts, covering expenses that are not covered under government health care, paying for private nursing homes, or providing income support.
Long term care insurance
Long-term care insurance is another coverage that is rapidly growing in popularity. It pays a daily or monthly benefit for medical or custodial care received in a nursing facility, in a hospital, or at home if you are unable to carry out some of the common activities of daily living (ADLs). Some examples include:
· Dressing and undressing
· Transferring from bed to chair, and back
· Voluntarily controlling urinary and fecal discharge
· Using the toilet
· Walking (not bedridden)
Few people plan to get injured or ill. Getting insurance of any kind is a form of risk management . . . preparing for unfortunate circumstances in life. Be sure to include a review of living benefits when you review other types of insurance.
Our health rarely improves with age. After the age of 65, 41 per cent of Canadians are likely to use nursing homes or some type of home care. Usually, the last five years of an individual’s life will make up 50 per cent of their total health care cost spent during their entire lifetime, according to the Canadian Institute for Health Information.
Traditional financial planning as it has been sold to the public encourages Canadians to save enough personal capital to generate 65 per cent to 75 per cent of their pre-retirement income during their retirement.
This rule of thumb operates under the premise that when an individual retires their expenses will be less than when they were working. The principle behind this type of thinking is that by that point in time, those retiring are likely to have paid down their mortgage on their homes, they are no longer responsible for their children’s post-secondary education and they have enough money to spend on vacations and other luxury items.
However, this type of thinking has proven to be based more on myth than reality. People are living longer today than ever before and this will impact their ability to provide for themselves as they age.
The cost of long-term care can cause post-retirement living costs for many retirees to be greater than when they were working. This cost reality of old age can quickly eat away at one’s retirement nest egg.
Many Canadians believe the government will look after them in there old age. If they become chronically disabled or mentally impaired, their provincial government plan may cover only a portion of their care of the assistance and supervision they may need. Each province subsidizes long-term care to a different degree. In many instances, long-term care is not necessarily medical care as outlined in the Canadian Health Care Act, but custodial care.
Canadians will pay more longterm care costs out of their pockets, with ability to pay usually based solely on monthly income from pensions and investments. Thus, considering the already high costs of living and health care today, most Canadians may not be able to afford the full cost of their care in the future.
If a person is over 40 years old and has assets to protect, but is not wealthy enough to comfortably pay for long-term care out of savings, they should consider purchasing long-term care insurance as part of their risk management strategy in their financial plan. This is especially important if there is a history of serious illness and longevity in their family.
Long-term care insurance is another coverage that is rapidly growing in popularity. Long-term care insurance pays a daily or monthly benefit for medical or custodial care received in a nursing facility, in a hospital, or at home.
It is very important to apply for long-term insurance while you are still healthy. These policies are usually guaranteed renewable, meaning once you qualify, you’ll remain eligible as long as the premiums are paid.
The premiums are based on a person’s age at the time they purchase the insurance and rates are usually locked-in for the life of the policy. Since most premiums for this type of insurance are paid with after-tax dollars, the long-term care insurance benefits are tax-free.
When choosing a long-term care insurance policy, it is important to find a policy that allows customized coverage. Some of the options one may purchase in their personal policies are:
· Location of care: in-home, in a nursing home, in an adult day centre, or an assisted living facility.
· Type of care: skilled nursing care, custodial care, home health aides.
· Options for size of daily benefit and length of coverage.
· Flexibility in applying benefits (sometimes called, “alternate plan of care”).
· Choice of waiting periods before coverage begins.
· Coverage of organic mental illness, such as Alzheimer’s.
· Benefit inflation indexing.
In essence, owning long-term care insurance can take away the financial insecurity that may accompany old age. By planning one’s future today, it is indeed possible to have nothing to worry about financially during old age.
If you’re not familiar with life or living benefits insurance, it can seem like a different language. You’ll hear things like whole life, universal life, critical illness, term insurance, and temporary and permanent needs. Understanding a bit about insurance can help you make an informed decision about the coverage that’s right for you, your family or your business. Basically, life and living benefits insurance can be broken into two types: insurance to meet your temporary needs and insurance to meet your permanent needs.
Choosing the Right Policy
Choosing the right policy can be a confusing process. Some questions you should ask yourself are:
· Will the policy meet my current needs?
· Will the policy provide the flexibility to meet my future needs?
· What does the policy cost–both current and expected lifetime costs?
· Is the provider established and financially strong?
· Will the company back its guarantees?
Term Life Insurance
If you’re looking for basic insurance coverage for a specific period of time, term insurance is a good place to start. It’s a cost-effective and simple plan, with some flexibility to adapt to your long-term goals. Over time, your needs may change. Term life insurance can evolve with your needs by providing options to extend your coverage period or even to transfer to a permanent life insurance solution.
One of the key benefits of term insurance is it is cost-effective for a short period of time. You are only paying for basic death benefit coverage so your insurance costs are minimized for the length of the term.
Term coverage is available for 5 years, 10 years, 15 years, 20 years or to age 100. Premiums stay the same for the term but increase once the term is being renewed. For example, say I buy 10-year term insurance (T10); I will have the same premium over the 10 year period. After 10 years, I will expect to pay a higher premium for the next 10-year term. Depending on your policy and age at the end of your chosen term, you can renew your policy for another term, or convert it to a permanent life insurance solution.
There are two potential problems with term insurance. Firstly, term insurance gets more expensive the older you get. Often this makes term insurance cost prohibitive at some point in time in the future. Secondly, term insurance will eventually run out. In fact, you may wind up paying for premiums and never collecting a benefit of any kind.
Here is a sample of what it will cost per year for $100,000 insurance coverage for a 10-year term:
Permanent Life Insurance
Permanent insurance solutions allow you to insure against the unexpected while increasing the value of your investment over time. Plans can also be flexible. You can also select a plan that gradually minimizes insurance coverage so you can maximize your policy’s investment potential.
There are three kinds of permanent insurance:
1. Term to 100 (T100). Some people may classify this as a type of term insurance but the reason I classify this as permanent coverage is because you can never out live the benefit. T100 is the most basic form of permanent coverage.
2. Whole life Insurance. Premiums remain fixed as long as the policy is in place. As long as the premiums are paid, the policy remains in effect. As the premiums continue to be paid, the policy builds up a cash value and also dividends. These dividends can be used to lower premiums, purchase more insurance or pay for term insurance. Whole life requires little to no management.
3. Universal Life. The policyholder has more control over how the policy is structured. Policyholders are given more options to choose the type of insurance and investment options. This is the most flexible type of contract but with flexibility comes ongoing decision making.
Permanent insurance is more expensive and more complex than your basic term policies. Many financial gurus speak the benefits of “buy term and invest the difference” but remember that everyone has a unique situation and there are many instances where permanent insurance may make the most sense.
To help you sort through your options you may want to speak with a professional financial advisor. He or she will have the expertise to help you choose the products and company that best meets your needs.
The last couple of weeks, I have talked about life insurance, which is one of the cornerstones of financial planning. To summarize, you need to know how much you need, what kind to buy and who to buy it from.
In this article, I want to tell you about Cathy and her needs for life insurance. Cathy is a 45-year old single mother of 5 children. The kids range in age from 7 to 22 and are all currently living at home, dependent on their mother. Cathy is raising these five children on a total income of about $40,000. In the words of Cathy, “My life is about kids, kids and should I say kids.”
The decision to buy life insurance
A few years ago, Cathy took on a sacrifice. Although she was living day to day on every paycheck, she decided that she needed to put some life insurance in place to make sure that the kids would be taken care of in case of her death. She met a life insurance agent and after a couple of discussions, it was recommended that she buy $200,000 of permanent life insurance for $120 per month. As much as Cathy was not sure where she would find $120 per month, she knew that life insurance was an absolute necessity.
Personally, I cannot imagine what it takes to raise five children as a single parent on $40,000 per year and then having to sacrifice $120 per month when every single penny counts. The question is did Cathy do the right thing?
Did Cathy get the right amount of insurance?
Without question, Cathy did the right thing and put some life insurance in place. However, if you do the analysis, she did not buy enough life insurance. While it makes sense that she could not afford to spend more that $120 per month on additional life insurance, it is easy to see that $200,000 of life insurance would not last too long to support 5 children.
How much life insurance does Cathy need? The first thing we need to look at is insuring against the debts. The only debt Cathy has is her mortgage. She has about $50,000 outstanding. The next thing to look at is income replacement. On an after tax basis, Cathy is earning about $30,000 per year. In order to replace $30,000 per year, she will need about $500,000. The last thing to consider is whether she would like to have some extra money to cover final expenses like legal costs and funeral expenses.
There is no perfect number, but if you take into account that Cathy has some assets to cover these needs, Cathy needs about $500,000 of life insurance coverage. With only $200,000 of life insurance, Cathy would be considered underinsured.
What kind of insurance should Cathy have?
For $120 per month, Cathy is paying for a Universal Life insurance plan. As long as Cathy keeps paying the $120 per month, she will never outlive life insurance. Her premiums will never go up. The issue is that at some point in time (ten years), when the kids grow to independence, Cathy may not need life insurance. The issue is that she is currently uninsured and may be over insured in the future.
For Cathy, we took a look at what it would cost to buy lower cost term insurance instead of more expensive permanent insurance. For $500,000 of ten-year term insurance, it would cost her $50 per month, more than twice the insurance for 40% of the cost.
I use this real life example to illustrate some key points when you are making the decision to buy life insurance:
· This is clearly a case where the wrong type of insurance and the wrong amount of insurance was put in place. For less money, Cathy was able to get a lot more insurance. Although term insurance is more temporary in nature, the fact is the primary need is also temporary.
· Cathy’s intentions were in the right place. However, this is a clear example of someone who is paying too much for the wrong type of insurance. After we made some changes to put term insurance into place, Cathy was able have the peace of mind that she had the right amount of insurance for her kids to survive on. With the monthly savings, she could afford to put in place some disability insurance and even contribute monthly to an RRSP.
· Every life insurance plan needs to be reviewed from time to time. Life changes, assumptions can change and certainly personal needs change. For Cathy a review made a significant difference to her future.
· Start with determining if you need insurance and only buy insurance if you need it. Then, determine the right amount of life insurance before you decide what type of life insurance to buy. Finally, shop around, as there are different products and different costs. Make sure you buy the type of plan that best suits your needs.
Can life insurance be an investment? Some experts argue that investing and insurance should be two distinct and separate parts of your financial plan. Buy term and invest the difference became mainstream thinking thanks to the likes of David Chilton and the Wealthy Barber.
In a world like today where confusion, complexity and information overload dominate, things may not be so cut and dry. The estate bond concept is an interesting one that takes life insurance and turns it into a potentially lucrative investment.
What is the estate bond?
The estate bond is an old life insurance concept that utilizes the tax benefits of life insurance to maximize your estate. The estate bond can multiply your savings by two, three and sometimes four or five times so you can provide a larger legacy tax-free for those you care about most.
I think the best way to describe the estate bond is to walk you through an example. Larry and Georgina are both age 65. They both have good pension plans. When you add the Canada Pension Plan and Old Age Security, they have a pretty good income to sustain a reasonable lifestyle. Larry and Georgina are not lavish spenders. In fact, most would characterize them as perpetual savers for a rainy day. Larry and Georgina have saved about $350,000 in investments in addition to their pensions.
Are they ideal candidates for the estate bond?
The estate bond is a concept that is really geared towards retirees who have excess income or excess assets necessary to sustain their retirement lifestyle. In Larry and Georgina’s case, this is clearly the case. Their pensions alone are sufficient to provide the lifestyle they want. Their investment portfolio is excess that can be used to enhance their lifestyle. For Larry and Georgina, they felt that $100,000 could easily be used to provide an estate for their 3 children and 4 grandchildren.
Putting the estate bond to work
Here’s how the estate bond is put to work. Firstly, the $100,000 is used to purchased a joint last to die life annuity. This annuity will pay $5,725.80 per year on an after tax basis (assuming a 32% marginal tax rate).
The next step is to use this annual lifetime income to purchase a Universal Life Insurance contract (face plus). For Larry and Georgina (non-smokers), $5,725 per year could purchase $375,000 of permanent life insurance. Already we have taken the $100,000 and turned it into a minimum of $375,000 of tax-free estate benefit.
Is this really a good deal?
The best answer to this question is to evaluate the numbers as if it were an investment and compare it to an alternative investment.
Now we have to start with basic assumptions about the rate of return on investments. Larry and Georgina are ultra conservative investors and they know that they do not need to take big risks to achieve their financial goals. Let’s assume a conservative investment return of a mere 3%.
Now let’s take a look at the life insurance policy compared to an alternative investment. For the alternative investment, we will be investing the $100,000 instead of putting it into an annuity. This investment will produce interest income of 3% per year. Of course, the 3% is taxable investment income so we will project the accumulation on an after tax basis.
In the first year, the life insurance has an estate value of $375,141. The alternative investment is worth $102,040. That’s an estate difference of $273,101.
After 10 years, the alternative investment continues to grow and the accumulated value is about $122,378. However, the life insurance contact will provide an estate of $376,747.
At age 90, 25 years into the plan, the estate benefit of the insurance contract is $381,342. Under the alternative investment, the beneficiaries would get $165,677. In fact under every time frame, the estate bond outperforms the alternative investment as an estate benefit. From an estate perspective, there is no question that the life insurance contract is far superior to the alternative investment. The downside it there is little to no liquidity using the life insurance contract. So there is some merit to looking at life insurance as an investment for your estate. The estate bond is a great way to maximize the use of your assets to ensure that your heirs get more instead of the government.