In my recent encoun­ters work­ing with clients on their plan­ning, we have uncov­ered a num­ber of ques­tions about insur­ance.  The ques­tions we typ­i­cal­ly hear are “How much do I need?”, “What kind of insur­ance should I buy?”, and “How do I know my insur­ance guy is sell­ing me what I need?”  Since it seems to be on the minds of many, let’s recap some of the insur­ance prod­ucts out there and review the do’s and don’ts.

1.  Sur­vivor Needs

There are only two rea­sons to have life insur­ance.  One is sur­vivor need – how much your fam­i­ly needs if some­thing hap­pens to you.  The oth­er is to take care of estate tax­es.  Despite what life insur­ance agents tell you, life insur­ance is not usu­al­ly a good invest­ment.

To deter­mine your sur­vivor needs, add your cur­rent debt cov­er­age to any planned future expens­es (such as col­lege for the kids).  This deter­mines your imme­di­ate need.  Deter­mine how much income your fam­i­ly needs to live on each year and add that to your imme­di­ate need.  Sub­tract your liq­uid assets and the total equals your sur­vivor needs.  Then fig­ure out the lump sum need­ed to gen­er­ate that amount of cash on an annu­al basis.  How long do you need life insur­ance?  Until your cur­rent rate of sav­ings equals your total sur­vivor need.

Life insur­ance comes in two forms: term or per­ma­nent.  Term insur­ance is the best buy for sur­vivor needs because it costs less and is pure insur­ance.  Per­ma­nent insur­ance allows you to build cash val­ue, and it remains in effect as long as you pay the pre­mi­um.

Per­ma­nent insur­ance can be either whole life, uni­ver­sal life or vari­able life.  With whole life, the insur­ance com­pa­ny takes the risk on the invest­ments and guar­an­tees a cer­tain rate of return.  Thus, they base your pre­mi­um on the expect­ed rate of return.  With vari­able life, you pick the invest­ments and you take the risk.  If your pro­jec­tions are wrong, you end up pay­ing high­er pre­mi­ums.  If you out­per­form pro­jec­tions, your pol­i­cy will cost less.

If you only have sur­vivor needs, buy term insur­ance.  If you have a larg­er estate, buy per­ma­nent insur­ance to cov­er the tax lia­bil­i­ties when you die.  The best approach involves “sec­ond-to-die” insur­ance, which doesn’t pay out until the sec­ond spouse dies which is when Uncle Sam brings the estate tax bill.  We will touch more on this lat­er in the year when we have a bet­ter direc­tion as to what will be hap­pen­ing with estate tax­es.

2.  Dis­abil­i­ty

Lack of dis­abil­i­ty insur­ance is the land­mine that can destroy all your finan­cial plan­ning.  Your biggest asset is your abil­i­ty to earn.  Lose that and all your plan­ning can be for naught.  Dis­abil­i­ty is not just los­ing an arm or a leg.  More often, it involves can­cer, depres­sion, back pain, heart prob­lems and oth­er debil­i­tat­ing dis­eases.

Dis­abil­i­ty insur­ance is gen­er­al­ly cheap­er through work because the risk is spread out amongst all employ­ees.  If you deduct your dis­abil­i­ty pay­ments from your pay­check, you will pay income tax­es on any pro­ceeds you col­lect.  If you don’t take the deduc­tion, you don’t have to pay tax­es on the pro­ceeds.  Most of the time, you’re bet­ter off tak­ing the deduc­tion now since your income would like­ly be low­er if you were tak­ing pro­ceeds instead of draw­ing salary.

Dis­abil­i­ty rec­om­men­da­tions:

  • Have a min­i­mum of 120-day elim­i­na­tion peri­od.  You can afford to self-cov­er dur­ing that peri­od and you will pay much less in pre­mi­ums.
  • Keep your pol­i­cy only long enough to meet your needs.  Don’t buy a life­time pol­i­cy if you only need cov­er­age until age 62.  Once your income pro­duc­ing days are over, your need for dis­abil­i­ty insur­ance goes to nil.
  • Get a waiv­er of pre­mi­um, which means you quit pay­ing for the pre­mi­um if you get dis­abled.  Also, get an infla­tion rid­er, which means your cov­er­age goes up with infla­tion.
  • The best solu­tion is to get dis­abil­i­ty insur­ance through work and aug­ment it if nec­es­sary.

3. Long-term Care

Long-term care pays for a nurs­ing home or in-home care.  Many insur­ance com­pa­nies are drop­ping this type of cov­er­age because they are los­ing mon­ey on it.  The aver­age annu­al cost of long-term care is $82,000 for a pri­vate room in the Cincin­nati area, and goes up about 5% a year, high­er than infla­tion.

The emo­tion­al costs of long-term care are hor­ren­dous.  Six­ty-five per­cent of peo­ple rely on their fam­i­lies to care for them in old age.  Many peo­ple miss work and even quit jobs to help take care of their par­ents.  In many cas­es, you will take care of your par­ents longer then they took care of you.  

Pur­chase long-term care insur­ance only if self-insur­ing isn’t an option.  How­ev­er, even if you’re finan­cial­ly inde­pen­dent, con­sid­er long-term care.  For one, the mar­ket is so unpre­dictable.  Two, it sends a mes­sage to your fam­i­ly that you don’t expect them to care for you.  Per­sons with no desire to leave an estate may be alright to self-insure until the mon­ey runs out and then let Med­ic­aid pick up the rest. Long-term care insur­ance is not cheap so if leav­ing an estate is not your desire, you might think twice before mak­ing that year­ly pre­mi­um pay­ment.

When con­sid­er­ing your pur­chase, be sure to look at whether you have indem­ni­ty ver­sus reim­burse­ment cov­er­age.  With indem­ni­ty, the insur­ance com­pa­ny gives you pay­out cash and doesn’t care how you spend it.  With reim­burse­ment, you sub­mit expens­es and get reim­bursed.  Indem­ni­ty is gen­er­al­ly the more expen­sive of the two.

When pur­chas­ing long-term care insur­ance:

  • Buy only from A‑rated com­pa­nies.
  • Look at the dai­ly ben­e­fit amount.  You may be able to self-insure for part of it, so that it doesn’t cost so much.
  • Look for waiv­er of pre­mi­um and home care options.
  • Make sure the pay­out goes up to han­dle infla­tion.

For busi­ness own­ers, long-term care is ful­ly deductible for C‑corporations, and you can dis­crim­i­nate, mean­ing you don’t have to pay for any oth­er employ­ees.

Medicare pays only for some advanced, spe­cif­ic hos­pi­tal care for 100 days, not for long-term care.  Med­ic­aid pays long-term care, but only for the impov­er­ished.  When it comes to long-term care, you have three basic options

  • Go broke.
  • Insure for it.
  • Have enough mon­ey to pay for it.

Pay atten­tion to your par­ents.  Unless you help them devel­op a plan, you are their long-term care plan.