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Jack Driscoll: Welcome back everyone to another edition of All Things Financial. I have with us over the next couple shows a guest, Ian George. And he’s a brokerage director with Mass Mutual. Welcome Ian. Thank you for coming to join us.
Ian George: My pleasure thanks for having me.
Jack Driscoll: The reason I have Ian with us is – I get so many questions; especially from business owners but individuals and retires alike on different forms of life insurance. And Ian is an expert in life insurance.
So I wanted to bring Ian on the show to go through a number of different choices; alternatives that we have; evaluations that I want many of you listeners and viewers of this show to know:
- whether your policies are healthy;
- how to do checks;
- what to look for;
- what different forms of life insurance are available for those of you who are looking to purchase life insurance.
And also Ian’s going to help share many ideas on how to determine if we even need life insurance; what the benefits are; and things like that. So Ian again I’ll turn it over to you to pick up where you think people ought to begin with a basic explanation for starters.
Ian George: Okay. Well basically over the years what I’ve discovered is that people from all walks of life have essentially the same kind of questions which is – they’re not quite sure what type of life insurance exist out in the market place. And more importantly obviously after they figure out what those are what type is right for them.
So I do find its best to give people some foundation in terms of what the basic types of life insurance are. As an industry the life insurance companies have done a great job of giving different life insurance products all sorts of different names to make things extra confusing.
So I’m here to tell you that the good news is that there are basically only 3 types of life insurance. And what I will do is go over and explain how those work one by one. And you know give people an idea so they can see how those work.
So the basic 3 types of life insurance are:
- Term Life Insurance,
- Universal Life Insurance,
- Whole Life Insurance.
Now obviously the easiest to understand for a lot of people is Term Life Insurance. And that’s considered to be pure insurance. You basically pay your premiums, covered for death benefit, there’s no cash value, nothing else that goes on with it.
The reason it’s often called pure insurance is because basically what you’re doing is taking the amount of insurance that you want. And it’s calculated on the components of what all life insurance contracts contain. And that is first and foremost is the death benefit.
Whatever somebody wants to have to be you know their life insurance amount, their death benefit, that’s gonna be a part of all forms of life insurance.
The next thing you’re gonna have is what a lot of people don’t know about. It’s called the mortality charge. And all a mortality charge is, is basically what the insurance company needs to charge in other words when they figure out what the risk is if somebody would die.
So as an example you have somebody who’s in their 20’s. Their mortality charge for the amount of life insurance they would buy would be lower than that of somebody say in their 60’s. Because the odds of somebody dying in their 20’s is much lower than the odds of somebody’s dying in their 60’s. So that means that their charges would be lower for that.
Mortality charges in Term Life Insurance correlate pretty close to what’s gonna be charged to them in premium. So there’s the insurance company’s gonna pad in some added features on top of their mortality charge obviously because insurance companies need to make money; and when they’re selling and protecting the public with their insurance policies.
So it’s gonna be mortality plus some incomes from the insurance companies and then you’re gonna have the premium that you’re gonna pay.
Traditionally those premiums have now gone on to be level. So as mortality charges grow and they grow year over year, most companies now offer programs that levelize your premiums. So that you’re paying the same premium for say 5 years, 10 years, 20 years or 30 years. And that’s Term Life Insurance.
So if you look at it you have a very level death benefit. So whatever I want to pay in death benefit. And then I’m gonna have my mortality charges which are gonna go up over time. So the older I get the more I’m gonna pay for my life insurance.
With level premium all they’ve done is factored that in and flattened it out again for what we talked about; that – 10 years, 15 years, 20 years, 30 years. So that’s Term Life Insurance plain and simple.
The next product that comes into play is Universal Life Insurance. And Universal Life Insurance might be one of the most confusing programs and products that the insurance industry has ever come up with. It has gone through a number of different changes but let’s go back to the basics.
Universal Life Insurance starts with the same place that all life insurance starts with; that our Term started with. So we have the death benefit, And the death benefit is the number that somebody’s gonna pick.
Now we know insurance companies have to charge for that death benefit so just like your Term Life Insurance there’s gonna be a mortality charge. The cost that the then insurance company deems it’s gonna take to cover the death benefits you’re gonna do.
Now comes, well the added feature; or now the confusion comes in because now we’re talking about cash value. And cash value that sits inside a Universal Life Insurance contract is designed to grow over time. So what happens is you pick your premium.
So to a certain degree on Universal Life Insurance your producer, agent or advisor is gonna help you determine the amount of premium that you’re gonna put in. Now you’re probably not going to put in the minimal premium amount because that would be Term Life Insurance. Because they’re gonna give you the bottom and base amount for your mortality charge and you can pay that.
Now if you pay that it’s gonna demand that you pay more and more each year because that mortality charge is going to be going up and up each year. But generally they’re gonna pick some money so; pick a premium amount rather that you’re gonna put in there. And whatever is remaining from your premium after the mortality charge is taken out is going into your cash value.
The problem with Universal Life Insurance is what we’ve already referenced – what’s going on inside that contract year over year over year. There’s a charge in there that is constantly going up.
Now over time as you can imagine somebody in their 20‘s may not notice that charge as they’re pushing money into one of these life insurance policies. But over time their mortality charges as they go into their 20’s, into their 30’s, into their 40’s becomes more and more expensive.
The other aspect of it too is – this can sometimes be hard to see within your policy or your charges because you are actually only being charged on the difference between how much cash is built up and how much your death benefit is.
As an example if I started a policy that was $100,000 in death benefit, year 1 I’m paying my mortality charges. My fee is on all $100,000 because I don’t have any cash value.
Down the road if I have accumulated cash value and let’s say there’s $50,000 in cash value and my death benefit remains at $100,000 – I am now only buying $50,000 of life insurance because the other $50,000 is my cash value. So that upon my death I just get my death benefit.
So where that gets confusing is – people can look at their charges and see that they’re not buying as much life insurance but actually their cost is going up.
The trouble comes in with these policies when I go to either use my cash value. Or if I reach a point in time where my mortality charge has increased greater than my premiums which means the policy only has one place to go to make up the difference so I don’t pay more premiums; and that’s in my cash value.
So you can tell there’re a lot of working parts in Universal Life Insurance that can make it hard to work with and a little difficult to understand for a lot of folks. Not to mention the fact that you know we’ve come out in the industry with so many different types of Universal Life Insurance that it doesn’t make it any easier.
So when Universal Life again, first started it was based on interest rates. And this was back when interest rates were very high. So the insurance companies were offering a product where people could take advantage of the very high interest rate. It was a horrible time to buy a house but it was a great time to put money in the CD’s.
I don’t know if anybody could even remember the days when you could put money in the CD and get 10%; but they existed. And that was also going on inside these policies. Obviously those days came and went. And when the interest rates dropped so did what these policies were doing.
When that occurred these policies with the interest-sensitive portion became less popular.
Then came along the most recent incarnation of what they’re doing with these Universal Life policies which is called Indexed Universal Life Insurance Policy.
Now if you thought they were confusing before, the indexing of these policies is only matted to make them that much more confusing. Because then now not only does the client have to understand the variables that change inside the Universal Life policy on its own. Now they have to understand how their interest is going to be calculated.
So at least with the traditional interspace Universal Life Insurance policy it was like having a savings account. They told you what your interest rate was and that’s what your interest rate was and off it went. The indexing is supposed to be, can be tied to a market index such as the S&P500 and things like that.
But you really have to be very careful with these policies because you don’t really know exactly how your interest is gonna be credited from year to year because it changes. And that’s where Universal Life policies have basically come to today.
All 3 are still available out in the market place:
- a traditional Universal Life with interest;
- a variable which money is finding its way into the market;
- and an indexed product where the markets are just being used to calculate the interest.
There is one form of Universal Life Insurance which is easy to understand that does work for some people. And that’s called Guarantee Universal Life Insurance.
Jack you and I have talked about Guaranteed Universal Life Insurance in the past.
Jack Driscoll: Right
Ian George: But we basically talked about it. It’s Term till you die.
Jack Driscoll: Right.
Ian George: And that’s basically what it is. Guaranteed Universal Life Insurance is essentially a premium that is guaranteed for the rest of your life for the death benefit guaranteed for the rest of your life. And that can be all the way up to age 121.
As we have gone over in some cases you can pay your premiums for a short period of time for Guaranteed Universal Life Insurance and keep your death benefit in force for the rest of your life.
Just know that there will be not, there will not be any cash value associated with these policies. It’s all going towards death benefit. Some polices will show some cash value at a certain time. But you have to understand with Guarantee Universal Life Insurance that if you touch that cash value the guarantee is removed.
So while you can see the cash value you can’t touch it.
Jack Driscoll: And that’s important.
Ian George: It’s very important. Also it’s important for clients to understand if they’re working in that area that if they happen to forget a premium payment and that then will have the policy to look towards its cash value. They then lose their guarantees as well.
So they’re very fragile contracts but they will keep all of their promises and they are easy to understand as long as you’re very diligent what you pay.
Now that brings us to Whole Life Insurance. And Whole Life Insurance is actually a fairly easy product to understand. We had talked about our basic components of life insurance. And so let’s go back and revisit those.
Our first basic component of Whole Life of life insurance is death benefit. Now with Whole Life Insurance obviously that carries a death benefit as well. So you’re gonna pick your death benefit. The next thing that happens is – we need to know about the mortality charge that goes on inside that policy.
Here is where Whole Life Insurance is different than Term Life Insurance or Universal Life Insurance – the morality charges on Whole Life Insurance are fixed in guaranteed level for the rest of time. This is nice because it makes it easier for people to figure out what’s going on inside their contracts.
So where as Universal Life Insurance is constantly going up. And then there’s the calculation of how that charge is taken out and what you’re paying into your premiums to get your cash value. And then you have to figure out how that’s calculated.
Whole Life Insurance kind of does away with that and basically says, “No. Here’s your mortality charge and here’s what it’s gonna be” and off it goes. Your premium also with Whole Life Insurance is- there’s gonna be a base premium to make sure all the guarantees can come true.
The underlying guarantees on any Whole Life Insurance contract are basically this – that the premiums that you pay in will go to your cash value and cover your death benefit. In a given year your cash value is guaranteed to be worth as much as your death benefit.
For most policies today that’s at age 100. So it doesn’t mean that you; you know that all that has to happen by age 100; well actually the policy guarantees that all that will happen by age 100 but it doesn’t mean you have to live to age 100 to keep it.
The other aspect is that you throw into what’s happening with that cash value. So you have that underlying guarantee but you can get more. So those are either with if you own a policy through a mutual company which are companies like my company – is Mass Mutual.
You have North Western Mutual; you have New York Life; you have the Guardian. These are your bigger mutual companies. We have Ohio National; we have National Life of Vermont; you have Penn Mutual. So you have small mutual companies that are out there as well.
The mutual companies, and this is where it’s important to understand this if you’re looking at a Whole Life Insurance contract – mutual companies are owned by their policy holders. So a policy holder of a Whole Life Insurance contract with a mutual company is being paid dividends. That’s how it’s done.
So if somebody has a policy with any mutual company, there are no stockholders other than the policy holders. You can’t find them on the New York Stock Exchange. They don’t; they’re not out there.
Other carriers do offer Whole Life Insurance they just won’t be paying you dividends on their Whole Life Insurance contracts as their dividends are paid to their stockholders. Policy holders are gonna get interest rates. So that’s how those contracts basically work.
With the dividends or interest rates on a Whole Life Insurance contract those are paid above and beyond the guarantees. They’re gonna do a couple of things. And most contracts are going to grow your cash value above your guarantee. And in other circumstances they’re going to pay your or grow your death benefit above your initial.
So it’s not uncommon to watch; on any Whole Life Insurance contract to watch all of your cash value grow and your death benefit grow. And that’s why Whole Life Insurance has been seen as a more stable program for a lot of people.
Jack Driscoll: And it’s important to point out – the dividends with the mutual companies are not guaranteed.
Ian George: No they’re not. Dividends are not guaranteed and they do however; the cash value does have an underlying actual guaranteed amount.
Jack Driscoll: Right.
Ian George: But no the dividends themselves are not guaranteed and they will fluctuate. So that is important to understand with anything. So your policy will go on over time.
The other thing that Whole Life Insurance contracts have are limited pay contracts. And those are offered by a number of different carriers offering you the chance to have a policy paid up in 10 years, 20 years. Some policies can be paid up at a certain year of you know the insured say at age 65 they want to make sure it’s all done, that can be done as well.
And that’s basically Insurance 101 with our Term Life Insurance, our Universal Life Insurance and our Whole Life Insurance. Now I know a lot of people do get confused Jack when they talk about all these programs. And somebody says, “Yeah but what about Single Premium?” well the funny thing is – is that Single Premium Life Insurance can be paid into any one of those 3 contracts.
So Single Premium contract in and of itself isn’t its own type of life insurance it’s actually a choice within any one of the 3 types of life insurance.
So how those companies choose to offer different options within those contracts can also be confusing. But what you want to know when you first start hearing about life insurance is – what is the basic type of life insurance.
And you can ask your producer or agent or anybody you’re talking to – is it Term; is it Universal Life Insurance or is it Whole Life Insurance? And then you’ll at least know what you’re starting with as a foundation and the blueprint for how that product works.
Jack Driscoll: And is it true that in any forms of life insurance; whether it’s Term or Universal Life or Whole Life – the death benefit if payable to a designated beneficiary and individual is income tax free no matter which form of insurance that you have?
Ian George: That is true except for one particular area. It would be income tax free but depending upon individuals it could be, it may cause an estate tax which is why you need to work carefully with your advisor to understand how your policy’s being owned.
So nowadays if you’re an individual and you’re buying a life insurance policy and your life insurance death benefit proceeds take your overall estate over $5 million you could be subject to some inheritance tax as well as estate tax. That’s when you might want to take a look at having your policy inside of a trust in terms of how that goes.
But yes you can easily with some very simple diligence make sure that the death benefits of your life insurance policy remain untouched by taxation.
Jack Driscoll: And then the other area with life insurance can sometimes be probate where you get the name designated beneficiaries on the life insurance?
Ian George: Yes probate is avoided as you know and some of you may know, is that probate is avoided on any beneficiary designation. So that is not only life insurance but its annuities; it’s your IRA’s; it’s your 401K at work; or your any plan at work where you’re forced to you know give a beneficiary.
And what probate does it that’s avoided as soon as the court is not involved. So anything that’s already been pre-deemed, and that’s where life insurance is obviously your front runner because – well people may forget to put you know beneficiaries on some other items; they’ll never forget to put beneficiaries on their life insurance policies.
Jack Driscoll: Because the one point I’d want to make to everyone is when you talk about life insurance the beneficiary designations override any designations you might have in your will. Because Ian just said it bypasses probate. If you have beneficiary changes that you’ve made in your will, who you want your heirs to be.
Let’s say you’re at a divorce or falling out or new children or whatever, and you update your will and don’t update your beneficiary designations, the issue will be the will is not seen through life insurance.
The beneficiaries that you have listed even if they’re old and defunct now will be the only designations the life insurance company sees when they’re paying out the benefits. So make sure to update both your wills and your beneficiaries when we talk about life insurance.
Alright, well that’s it for today’s show. I appreciate everyone tuning in. I’m going to have Ian back on a couple of the next shows. We’re doing this as a series and will air them each week.
So Ian thank you very much for coming in and until the next show I appreciate it.
Ian George: My pleasure thanks for having me.
Jack Driscoll: Thanks.