“Only Fools Buy Whole Life Insurance and only commission hungry salesmen sell it!”
Have you heard this before? As a financial consultant with vast experience with planning for Federal Employees, whenever I recommend permanent life insurance as a part of a retirement plan—I normally receive the above response.
To begin with, most financial advisors understand the trepidation clients can feel when presented with a permanent life insurance policy recommendation. You only have to do a quick search on google to begin distrusting any permanent insurance policy.
For example—the following are just a small sampling of negative articles and comments:
1. Article from Smart Money Magazine from January 1, 2010* leads off with…“The Right type of insurance can be summed up in a single word: Term. It goes on to say “Leaving Aside the fact that there are many better ways to save for retirement, these policies come with high fees and commissions, which sometimes lop off as much as three percentage points from the annual return.”
2. One Popular Financial Radio Host and writer states in the “Truth About Life Insurance” : The Myth- Cash Value Life Insurance like whole life will help me retire wealthy….The Truth– Cash Value Life insurance is one of the worst financial products available He goes on to say “Do not invest money in life insurance, the returns are horrible!! Your insurance person will show you wonderful projections, but none of these policies perform as projected.”
I’ll let you on a little secret—for most of the population, the above opinions are probably right. Life insurance policies earmarked for retirement should never be used as the sole and primary strategy. Allocating money into your Thrift Savings Plan (401K) and then into Roth IRA’s should always be first tool you use when saving for retirement.
Why?– simply put, a dollar growing at the same rate of return in a Roth IRA vs. the same dollar and the same rate of return in a life insurance policy will never be equal. The Roth IRA will always win because of the extra costs associated with owning the life insurance policy—namely the cost to insure your life.
So why would any financial advisor in their right mind recommend Permanent Insurance to a Federal Employee?
Answer: because every federal employee buys a form of insurance at retirement. It’s just a matter of how much you spend and who you buy it from.
I’ll explain. When you retire from the government you will receive a pension. Upon calculating that pension, the very first, and highest income number you receive will be your “life only” income. Don’t fall in love with that figure because if you are married and you love your spouse, you will want to leave some of your pension to spouse. (Life only means the pension dies with you)
If you choose the “leave it to your spouse route” (e.g, Survivor Option) the maximum you can leave is 50% (FERS) or 55% (CSRS) By doing so, your pension will have 10% lopped off each year to pay for your spouse to receive a MONETARY benefit in case you die prematurely.
Follow me on this. You’re going to pay back 10% of your pension to provide someone you love money in case you die. That is exactly like life insurance. Furthermore, it’s almost exactly like Whole life insurance. You pay premiums in the form of pension reductions your “WHOLE” life—and the death benefits are guaranteed to be there in case you die.
Congratulations on your government sponsored/employee paid whole life insurance policy.!!
(Ok—I’m being tongue-in-cheek here but you get the idea)
Let’s do an example. Let’s say a Bob Jones is a retiring at 60 with a $40,000 a year pension. He chooses the 50% survivor option for his wife June and forgoes pension income in the amount of $4,000 a year. If Bob passes away June will receive $20,000/year as long as she lives. In this example the $4,000 is a premium and the Federal government is the “insurance company.”
That’s the best case scenario. However, what happens if Bob’s wife dies before he does? He will now receive his full “life only” pension and get his 10% back while he lives. He will not, however, get back his “paid premiums.” (e.g. , the 10% reduction from previous checks)
What happens if Bob and June live long healthy lives and Bob dies at 88 and June dies at 90? Yep, Bob paid 28 years of survivor benefit pension premiums only to provide 2 years of income to June.
Doing the simple math, if Bob can buy a private life insurance policy less than the $4,000 a year that would provide his wife the same survivor benefit as through the government why wouldn’t he?
In addition, private life insurance policy may allow a form of return or premiums in case June died before Bob.
Finally in the event the both live long and healthy lives, private permanent life insurance can be passed on to the next generation. Pension survivor benefits do not pass on to anyone but the spouse.
And that’s the exact point, Anti-Whole life articles are written for the general population, not for Federal employees with pensions to consider and decisions unique to FERS and CSRS employees.
FERS and CSRS employees may not want to buy the default government “insurance plan” via a reduction in pension at retirement. Thus, all federal employees should consider and evaluate permanent insurance as a portion of your retirement plan.
Let’s make something very clear. Whole Life insurance may not be right for you. However, the next time your advisor asks you to consider a permanent life policy as part of your plan. Don’t run! He or she may not be so bad after all.
In our next article we’ll discuss the pro’s and cons of using insurance and the issues you must consider before adding this to your plan.
BlueWater Financial Group
* Source: Smart Money.com January 2010
**Source: Dave Ramsey.com